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Panic on the Streets of Melbourne

Showered with cash, everyone's natural caution is fast evaporating...

SO THE PANIC is over. Or the real panic has yet to begin. Which is it? asks Dan Denning, writing in Melbourne for the Daily Reckoning Australia.

For now, we'll take both. The panic in financial markets subsided in March and stocks rallied. Stocks didn't make new lows on bad news and the bad news (as bad it was) ceased to get more bad, which was good.

But what about Main Street, what's going on there? According to the Westpac-Melbourne Institute consumer index released yesterday, Australians were exactly 8.3% more confident in early April than they were in April-March. See what a dose of low petrol prices, declining interest rates, and government cash can do for you?

We were searching for all sorts of entertaining metaphors to explain this, but the simplest explanation is good enough: be very afraid. The government has done its part to disarm people's natural sense of caution by showering them with cash. But there is plenty to be afraid of, and plenty to suggest these confidence numbers will plummet in a few months.

The trouble is, all the other indicators in the real economy suggest that Main Street is going to get flogged later this year, mostly by rising unemployment. There's also the possibility, which we discuss below, that a second round of real panic will hit financial markets when the Geithner plan fails to solve the toxic asset problem. And then you will have dueling panics in the corridors of power finance and in kitchens all over Australia.

If there is a recession out there in Australia, though, no one is telling first home buyers. With their pockets stuffed with wads of government cash, the First-Home Buyer's Grant has continued to single-handedly prop up Australian property prices, according to data released last week by the Australian Bureau of Statistics.

Ah...the strength and vigor of youth.

The amount of money committed to housing rose 1.3% in seasonally adjusted terms, from $18.9 billion in January to $19.2 billion in February. You can credit that rise to the FHBs. Their share of the market for new commitments to owner-occupied housing grew from 26.5% in January to 26.9% in February.

Remember, in January of '08 - before the increase in the Federal First-time's grant - new first home buyers made up just 12.1% of the housing finance commitments. Their contribution to the money flowing into the housing market has grown 122% since then. But will they get what they paid (borrowed) for?

We continue to believe that you are seeing the blow-off phase of Australia's property bubble. It's one of the last remaining housing bubbles in the world yet to pop. But the introduction of the FHBs into the market as a key support of property prices is a sign that it may be near its peak. And that is not good news for first-time buyers.

According to new data, the first-timers are paying nearly 11% more for their new homes than other owner occupiers. According to the Bureau of Statistics, the average loan size for FHBs grew by six percent from January to February, from $264,500 to $280,600. Meanwhile, for everyone else in the market, loan sizes fell slightly, from $255,900 to $253,200.

Do you think mortgage brokers and lenders are giving the FHBs larger loans out of the kindness of their hearts? Or do you think the $27,000 difference between loan sizes has something to do with sellers and real estate agents squeezing as much of that tax-funded FHB grant into their pocket as possible?


Meanwhile, trouble is brewing again in the financial markets. The IMF is predicting another $3.1 trillion in toxic bank assets. And there is growing skepticism in Washington that the Treasury Department knows what it's doing.

A report released last week by the panel in charge of overseeing the deployment of the TARP raised the possibility that the Treasury is making a basic assumption in its handling of the crisis, namely that impaired assets will recover.

The report said "It is possible that Treasury's approach fails to acknowledge the depth of the current downturn and the degree to which the low valuation of troubled assets accurately reflects their worth. The actions undertaken by Treasury, the Federal Reserve Board and the FDIC are unprecedented. But if the economic crisis is deeper than anticipated, it is possible that Treasury will need to take very different actions in order to restore financial stability."

The report then went on to suggest what those "very different actions" might be. They include three main options: liquidation, receivership, and subsidization. Since the first two options entail admitting failure (and watching several large US banks go down, which could take down other banks and institutions as well) the third option is walking down TARP lane on the road to subsidization (PPIP).

But that's not so flash either, according to the report's authors. They first describe how it's worked so far and that what might not work later. "Subsidies may be direct," reads the report, "by providing banks with capital infusions, or indirect, by purchasing troubled assets at inflated prices or reducing prudential standards. Cash assistance can provide banks with bridge capital necessary to survive in tough economic times until growth begins again.

"But subsidies carry a risk of obscuring true valuations. They involve the added danger of distorting both specific markets and the larger economy. Subsidization also carries a risk that it will be open-ended, propping up insolvent banks for an extended period and delaying economic recovery."

Subsidies also create zombie banks, a zombie economy, and a really angry populace that realizes one industry and its legacy of mistakes are being propped up by its political supporters in the corrupt capital. It spells trouble.

Best-selling author of The Bull Hunter (Wiley & Sons) and formerly analyzing equities and publishing investment ideas from Baltimore, Paris, London and then Melbourne, Dan Denning is now co-author of The Bill Bonner Letter from Bonner & Partners.

See our full archive of Dan Denning articles

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