Other economics
Long term bond rates
Long term bond rates have been rising. Three economists explain what that means.
Policy nerds and journalists keep a close watch on the Reserve Bank’s cash rate target – the very short-term or “overnight” interest rate – because of its immediate effect on housing and business lending rates.
Long-term government bond rates also move with the cash rate target, with an interest- rate premium, on the basis that the longer the term of a debt, the greater is the risk that inflation will reduce its value.
The cash rate and the long-term bond rate do not move in lock step however. The graph below shows the ten-year government bond rate and the RBA cash rate for the last 13 years (the extent of the RBA series).
The 10 year-bond rate generally has a 0.5 to 1.0 percent premium over the cash rate, but at times that premium rises to higher levels, as it did in early 2022 when it became clear that interest rates were bound to rise, the big Covid fiscal boost combined with heavy household borrowing during the two years of near-zero low interest rates having raised inflationary expectations. There are also times, as in 2023 and 2024, when the long-term rate dips below the cash rate, usually in expectation that an economic downturn will force the RBA to cut rates.
Writing in The Conversation – Why the rise in government debt is freaking out the bond market – Mark Crosby of Monash University notes that our ten-year bond yield has risen to a high of 5.015 percent – possibly a whole pixel on the blue line.
He mentions Australia’s Commonwealth government debt, which has just passed $1 trillion (about 30 percent of GDP), as a factor driving up long-term rates. Like the 5 percent yield, that $1 trillion is attracting more than its fair share of partisan attention, as happens when an economic indicator throws up a prominent round number. In fact the Commonwealth netdebt – the government’s gross debt offset by secure financial assets – is around $600 billion (about 20 percent of GDP), and is reasonably under control, but “$1 trillion” has a ring that “$600 billion” doesn’t.
Crosby’s article is mainly about US government debt, which has hit other round numbers, $US40 trillion, or 100 percent of GDP. It is rising quickly because of the Trump administration policy of cutting taxes without finding sources of revenue. Their budget deficit this year is 6.5 percent of GDP – a very high figure for an established “developed” country.
In a short clip Alan Kohler explains the relevance of long-term bond rates and also draws attention to our bond rate having exceeded 5 percent, but like Crosby his main message is about the US. He explains that interest on US government debt is making a major demand on public finances. It is now greater than spending on defence for example.
This concern with US government debt is not altogether unexpected. Ever since the 1944 Bretton Woods settlement, the US has been able to borrow from the rest of the world in its own currency, essentially free of the discipline financial markets and the IMF impose on other countries.
Crosby describes this “extraordinary privilege”, as it has come to be known. But can the USA go on depending on its extraordinary privilege? How long will the rest of the world go on trusting the strength of the US economy and therefore the value of the $US?
There’s unlikely to be a run on the $US, because no holder of US bonds wants to see a collapse in the value of their assets. But around the world there is a slow exit from the $US. For example our central bank, the RBA, has been quietly reducing its holdings of $US.
Writing in the Saturday Paper – Caught in the US debt spiral – John Hewson describes how long-term bond yields around the world are rising, in response to the growing US government debt and signs that all its financial assets – shares and bonds – are overvalued. His article goes into the political dynamics of the conflict between Trump and the Federal Reserve Board. Economic optimists believe that the US can grow its way out of its debt but the Fed is more concerned with inflation.
As for Australia, Crosby, Hewson and Kohler believe we are not immune from the developments in the US – a contagion that is evident in our high long-term bond yield.
There are those who believe, like Trump, that it doesn’t matter because countries including Australia and the US emerged in 1945 from the European and Pacific wars with even higher levels of debt. But that was in the context of extraordinary economic growth. There are also adherents of so-called “modern monetary theory” (It’s actually quite old-fashioned), who, with sound reasoning, believe that debt is just a financial construct distracting us from real economic resources. That is so, but the financial community does not think that way, and their behaviour has profound effects on the real economy.
What’s happening in the 99 percent of Australia outside our state capitals
Another push for a less concentrated distribution of our population.
As political parties grapple with the difficult issues in immigration policy, the Regional Australia Institute has come out with a major report about the more general issue of the distribution of people within our large land mass.
Its report Regional population planning has drawn the attention of the media because of its finding “Overseas migrants and internal movers are the dominant drivers of population growth in regional Australia, while natural increase of the population is declining”. That’s an important message at a time when right-wing populists, here and in other countries, are pushing an anti-immigration agenda.
An earlier decentralization initiative
But that’s only one of the report’s eight findings, and is nowhere nearly as radical as their main recommendation, which is that our Commonwealth and state governments should “develop a national regional population settlement strategy”. It goes on to suggest a number of elements of such a strategy including planning for infrastructure, housing, and the initial settlement of immigrants.
It’s radical because it re-awakens old pushes for “decentralisation”, and the Whitlam government’s urban and regional development program. Such programs proceeded in fits and starts, sometimes successful, sometimes unsuccessful, and often non-metropolitan population centres blossomed without any input from government. These programs often failed because they neglected the need for transport and communication infrastructure. The authors of this report seem to be well aware of those past failings.
Running through the work are reminders of the imbalance in our population growth – our “costly densification, crowding and congestion in the capital cities” and the “endless urban sprawl”.
The ideas the Institute is promoting are clear enough: we need a settlement pattern that does not depend on unbounded growth in our two megacities and a handful of smaller state capitals. But, as with earlier initiatives, they are up against established, if not always openly articulated, public ideas.
One is that large cities enjoy unlimited economies of scale. That is so for businesses, while the diseconomies are borne by those burdened with expensive housing and long commutes. Another is that today’s successful decentralisation is tomorrow’s problem of structural change laying to waste a single-industry community. And a third is to do with political developments. As we have seen in recent elections a polarising urban-rural political division is developing, with much harder attitudes than we ever saw in the “left”/“right” politics of earlier times.
A fourth public idea, to which the Institute itself seems to be bound, is that Australia can be classified on a binary “capital city/regional” division, where the term “regional” refers to everything from the Gold Coast to Marble Bar, and while overlooking the development of distinct regions within our conurbations. We need our thinking to be guided by more meaningful classifications.