Wednesday, March 27, 2013

Global economy improving despite Cyprus bailout says cautious Reserve Bank

By Business editor Peter Ryan

Global financial conditions are continuing to improve despite this week's emergency bailout for Cyprus.

But the Reserve Bank has warned the rescue of Cyprus is the latest reminder that the Eurozone debt crisis is far from over and that another financial shock could still hit the global economy.

In it's six-monthly Financial Stability Review released today, the RBA said it was still to early to say if the improved market sentiment was the beginning of a sustained recovery or "merely a temporary upswing".

"The renewed market tension associated with the handling of the sovereign and banking crisis in Cyprus in recent weeks has provided a reminder of the political, economic and social challenges of resolving the pervasive fiscal and banking sector problems," the Review says.

"There have been a number of periods of optimism which ultimately turned out to be short-lived as financial markets refocused on unresolved underlying problems."

In the six months leading up to the Cyprus bailout, the improvement in global investor sentiment has seen a rally in risk appetite and significant gains on major bourses.

But since the Cyprus crisis has emerged, investors throughout Europe have sold off shares fearing that targeting of bank deposits in the island nation could spread to other Eurozone members.

The European Central Bank today moved to quash fears that the Cyprus solution was a precedent after the Dutch finance ministers said it could be a "template" for other rescues.

The Reserve Bank also gave a tick of approval to Australia's banking system and it "remained in a relatively strong position."

The Review says wholesale funding costs for banks have eased "at the margin" while making the point that banks have been "continuing to limit their use of wholesale funding in any case."

The RBA says growth in deposits is outpacing growth for credit and that rates paid for retail deposits "remain around historically high levels."

The comments appear to support claims from the Big Four banks that the competition war for deposits is responsible for an inability to pass on cash rate cuts in full to borrowers.

The RBA says that while banks are looking for new strategies to underpin growth, there was "little sign at this stage that banks have been motivated to take on excessive risk."

Households still prefer to pay down debt rather than take on new debt, according to the Review.

However, the RBA has warned that big household debt remains a major risk.

"Household indebtedness and gearing are nonetheless still at historically high levels and hence continuation of the household sector's more prudent approach to borrowing would assist in strengthening the financial sector's resilience."

The Review also predicts the peak in the mining investment boom is now expected to be lower and occur earlier than previously forecast.

While the impact on the financial system would be limited, the RBA warns that companies servicing the mining industry could be hurt.

"Some mining services companies could face greater difficulties in repaying their debt (and) this could lead to loan losses to financial intermediaries even though their exposure to mining services companies is small."

The Reserve Bank meets next Tuesday for discuss interest rates after cuts of 175 basis points since late 2011.

Most economists think that despite the emergency bailout for Cyprus that the cash rate will be held at 3.0 per cent.

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