The financial system faces a potential systemic threat if the unemployment rate starts to accelerate as housing prices surge, fuelled by falling interest rates, according to David Murray.
Mr Murray, who led last year’s financial system inquiry and is a former Commonwealth Bank chief executive, warned that macro-prudential policy to contain the emerging risks in the housing market might be needed.
After addressing an Australian Centre for Financial Studies lunch in Melbourne, he told reporters that the chances of the nation losing its coveted AAA credit rating were continuing to rise incrementally.
On the housing market, though, the former CBA chief noted that asset prices around the world kept rising as monetary policy was eased. “And it’s just not the case we’re immune from trouble here — there only has to be a noticeable pick-up in unemployment and this can turn very, very difficult,” Mr Murray said.
“I think APRA (the Australian Prudential Regulation Authority) and the Reserve Bank have a problem here, and for the Reserve Bank it’s not without systemic considerations.”
Mr Murray added that “prudential offsets” might be needed to limit the risks in the housing market if interest rates continued to fall.
In other countries, macro-prudential measures have included caps on housing finance, and in Hong Kong and Singapore, limits have been introduced on loan-to-valuation ratios for second properties.
The financial system inquiry finished its work last December, with the release of its final report.
Final submissions on the report are due by March 31.
The property market, meanwhile, continues to simmer. On Tuesday, the RBA kept the cash rate on hold, but governor Glenn Stevens signalled that further cuts were on the way, given the weak economy.
Mr Stevens said the current rate setting of 2.25 per cent was appropriate “for the time being”, with further easing possible “over the period ahead to foster sustainable growth in demand and inflation consistent with the target”.
On every previous occasion that the RBA has used the expression “for the time being” — a total of eight times — a rate cut has followed within one to two months.
Mr Murray said the government had a clear interest in implementing his inquiry’s recommendations, given that a stable financial system was required as the sovereign rating came under increased scrutiny.
The threshold for losing the AAA rating was commonwealth and state net debt exceeding 30 per cent of GDP.
Asked if the risk of a downgrade was increasing, Mr Murray said: “Oh yes, I think so.”
“If the states start to push their debt up, there’s a consequence for the whole rating.
“And the speed of the build-up in the commonwealth debt, and the structural issues for the budget, mean that the threshold for the rating is getting nearer and nearer all the time.”
There were further implications from the states wanting to undertake infrastructure work without recycling their existing assets. “To do that, they will have to lift debt,” Mr Murray said. “So I think that the recycling program that the government has done in NSW is, in contemporary terms, the only sensible way of improving productivity and containing debt.”
Responding to re-emerging calls for a royal commission into the financial planning industry, he said the only justification would be evidence of criminality.
“They’re serious issues and we’ve underestimated the knowledge gap between users of the system and providers,” Mr Murray said. “So that puts us in the same paddock, if you like, as pharmaceuticals, medical professionals, lawyers and others who have a well-worn track of professional accreditation and other things that keep those professions in good shape. We’re not going to get confidence … until we’ve built the same structure.”
This article first appeared in The Australian Business Review.