Tuesday, May 29, 2012
Sure, there was a catch. The investors bought inflation-indexed bonds, which means the money they get back in 2022 will have grown to match inflation in the meantime. If inflation in Germany in the next decade is the same as in the previous one, that means if they invest ?10 million ($A12.8 million), they'll get back ?11.675 million. But in 2022, that will buy them only what ?10 million buys them now.
And to park their money like this, investors paid the German government 0.24 per cent of the amount they invested: ?24,000 for every ?10 million. Imagine if the Commonwealth Bank or NAB were to pay us to borrow money from them, and then we eventually pay them back just the amount they lent, plus inflation. Any volunteers?
It shows you how fear has taken over among global investors. They are pulling out of stock markets because they sense they are more likely to lose money there than make it. And they are putting that money in low-risk bonds regardless of how little they pay.
It was not the only coup Germany pulled off last week. It also offered a two-year note, on which it promised to pay no interest at all. Give us ?10 million now, and we'll pay you back ?10 million in 2014; that's the deal. To get investors into this one, the Germans did have to pay a small yield, but just 0.07 per cent. That's value!
Rabobank International strategist Richard McGuire summed it up neatly: "It reflects the now-familiar crisis-induced trend of investors favouring the return of their money over a return on their money."
When confidence is high, investors buy shares or other ventures offering good returns, accepting risk. But in a crisis, as in Europe now, they sell shares and retreat to the safety of the bond market. And there, they lend to governments they know will repay them, not to those offering high returns.
In Europe, pre-crisis bond yields differed little from one country to another. Now the gaps are huge. At last count, 10-year bond yields were 1.37 per cent for Germany and 2.5 per cent for France. But for Italy, they were 5.79 per cent, in Spain 6.32 per cent, Ireland 7.46 per cent, Portugal 12.37 per cent and Greece 29.68 per cent. Countries regarded as safe are issuing debt more cheaply than ever before. Countries in trouble are finding debt either expensive or impossible to issue.
Australia is one of the winners. The Australian Office of Financial Management, which manages the government's debt, has won Risk magazine's global award as sovereign risk manager of the year twice in the past four years. Yields have plunged for Australia's Treasury bonds, inflation-indexed bonds and notes which in turn set benchmarks for yields on bonds issued by Australian companies.
Since 1998, our bond yields have usually ranged between 5 and 6 per cent. But in recent days, the Office of Financial Management issued a new 10-year bond at a yield of just 3.15 per cent, a five-year bond at 2.65 per cent, and a three-year bond at just 2.52 per cent. Yields have fallen by half in a year.
Why? Because global investors have flocked in to buy Australian government debt. Their concern is not that we have too much debt, but too little. IMF figures show that of the 34 advanced economies, Australia has the third smallest ratio of gross debt to GDP: including state and municipal debt, it's just 24 per cent of GDP. By comparison, Germany has a debt-to-GDP ratio of 79 per cent, the United States 110 per cent, and Japan 241 per cent.
The Coalition and its allies are like a broken record warning that Australia is swimming in debt and putting itself in danger. That is simply untrue. Ask yourself: if Labor's borrowing has put us in danger, why is Australia one of only eight countries rated AAA by all three global ratings agencies? Sure, ratings agencies make mistakes, as we all do, but are they that incompetent?
The surge in demand for Australian bonds that has driven yields down has come from overseas buyers. Are these investors incompetent in seeing Australia as a safe bet? No. Rather, the Coalition is using rhetoric to make a dangerous case that doesn't stand up. Australia's debt levels remain very low by world standards. Net debt is expected to peak at less than 10 per cent of GDP here; in Greece, it's about to hit 160 per cent. That's some difference.
The question we should ask is: why aren't our debt yields even lower? Other AAA-rated countries pay far less to borrow than we do. Even the US and Japan, on lower ratings and with critical long-term debt problems, are paying only half to a quarter as much.
The reasons are not clear, but there are several suspects. Because Australia has so little debt, it is less easy to trade, which imposes a premium. Our inflation rate is still a bit higher than in Europe, Japan or the US, which puts a floor under the yield. We are far from the bond traders, and less well known.
And foreign investors are wary of a nation where house prices are so high relative to income, where for 30 years the current account on average has been in deficit by 4 to 5 per cent of GDP, and where banks have a lot of short-term foreign debt, and far fewer foreign assets.
That is what a Coalition government would inherit. It should be thinking about it now.