AUSTRALIA - INPUT FOR G-20

C O N F I D E N T I A L CANBERRA 000220 NOFORN SIPDIS STATE/EEB/OMA ALEX WHITTINGTON; TREASURY/IMB BILL MURDEN, WILBUR MONROE, AND MARY BEASLEY; STATE FOR EAP/ANP AND EAP/EP E.O. 12958: DECL: 03/14/2019 TAGS: ECON EFIN AS SUBJECT: AUSTRALIA - INPUT FOR G-20 REF: A. A. STATE 17502 ¶B. B. CANBERRA 116 ¶C. C. 08 CANBERRA 1036 Classified By: Dep EconCouns W Albright, Reasons 1.4 B, D ¶1. (C/NF) Summary: The top concern for the Australians going into the G20 summit will be coordinated international action to restore global confidence, bolster the stability of the international financial system, and produce outcomes that lead to tangible results. PM Rudd wants to coordinate with G20 partner states to deal with non-performing assets and to gain a political commitment to reform the IMF to gain greater Chinese participation. He will also likely push for another G20 leaders meeting later in 2009, to deal with nonperforming assets and institutionalize the role of the G20 as the primary vehicle for dealing with the financial/economic crisis. The GOA is generally supportive of US efforts and wants to work closely to ensure the London Summit is a success. Australia's economy has slowed due to the economic crisis, but remains for now in better shape than most OECD economies. Its banks and financial institutions generally remain sound; the GOA has made no financial injections into banks, and has had to do relatively little to support its financial sector so far. Australia publicly opposes protectionist moves. The crisis has not impacted on Australia's ability or willingness so far to stick to foreign policy commitments such as its role in Afghanistan. End summary. ¶2. (C/NF) The following, using reftel format, is a summary of GOA views on the current economic crisis and the upcoming G20 London Summit, and how the crisis has affected the Australian financial sector and real economy. Note that as of COB March 4 (Australia time),the exchange rate was A$1 = US$.633. ¶I. Objectives for the London Summit -------------- -------------- ¶A. In the run up to the London Summit, what are the issues of greatest importance to the host government? ¶3. (SBU) The most important issues for the Rudd government are restoring global confidence, bolstering stability of the international financial system by, among other steps, dealing with non-performing assets (including maintaining access for credit-worthy borrowers to international credit, important for Australia),and avoiding trade or financial protectionism. The G20 is generally viewed positively in Australia, in no small part because it gives Australia a QAustralia, in no small part because it gives Australia a voice in the debate. ¶B. Based on public comments made by host government officials, what are the country's likely objectives for the summit? ¶4. (SBU) Prime Minister Rudd has publicly urged the G20 to adopt his plan to regulate the lending practices of financial institutions, including: (1) requiring full disclosure of balance sheet and off-balance sheet exposures; (2) requiring banks and other financial institutions to build up capital in good times as a buffer for bad times; (3) requiring incentives "to promote responsible behavior rather than unrestrained greed"; (4) better accounting rules; (5) strengthening the IMF,s mandate for prudential analysis. ¶5. (SBU) In a March 3 speech before the Australian Chamber of Commerce and Industry, Rudd said that at the London Summit he would pursue shifting toxic assets off of the balance sheets of banks, saying that isolating these non-performing assets was the only way to restore the flow of private credit and end the global recession. Rudd said that GOA officials were working with G20 counterparts to stress-test troubled banks to determine which were viable, and said non-viable banks should be closed. ¶6. (C/NF) Rudd advisers say he recognizes that leaders probably cannot come up with a solution to toxic assets in April, and so believes there should be a second G20 leaders meeting later in 2009 - which would also support his goal to institutionalize the G20 leaders meeting as the main forum for managing the economic/financial crisis, and thereby assuring Australia a seat at the table. Rudd also wants to secure a strong commitment to serious IMF reform as a way to promote a larger and more positive role for China, and to strengthen the ability of regional development banks to promote financial stability, including ending geographical criteria in filling senior positions. Rudd is concerned about the implications of economic shakiness in Central Europe and about the prospects for such instability occurring elsewhere. ¶C. Are there desired outcomes that officials have identified publicly? ¶7. (SBU) In his March 3 speech, PM Rudd said the challenge of toxic assets "must be addressed" at the G20 summit, and that design and implementation of plans to isolate non-performing assets must be done in cooperation with other countries, including emerging countries. Rudd listed the following seven principals for dealing with toxic assets in banks: - i. Stress test all "systemically significant" financial institutions so publics and governments know whether they are sound; - ii. Close all non-viable banks; - iii. Neutralize, quickly and using compulsion if necessary, all toxic assets on bank balance sheets as US did in the 1980s S&L crisis, through publicly-funded insurance mechanisms, or using public and private capital in other ways to isolate and remove these non-performing assets; - iv. Use a "transparent and simple formula" to derive prices Q- iv. Use a "transparent and simple formula" to derive prices for bad assets (no further details); - v. Private and public sectors and IFIs work together to achieve this outcome; - vi. Recapitalize banks so they will lend and reopen "arteries of credit"; and - vii. Once recapitalized, banks must agree to maintain regulated levels of lending in return for government support through sovereign guarantees on deposits and/or interbank lending. ¶8. (SBU) Australian banks have relatively little exposure to such toxic non-performing assets, but rely on the ability to raise capital internationally, and could suffer if the credit crunch grows worse. ¶9. (SBU) The GOA will likely to argue for improved reregulation of national and international financial actors to ensure that systemic risk is reduced and that unduly risky behavior by financial managers is not rewarded. Trade Minister Simon Crean has also urged the G20 leaders to make public commitments to renewed liberalization of international trade, and to condemn protectionist actions that would reduce international trade or financial flows. ¶D. Based on public information, what recommendations or reforms might the host government suggest? For example, is the host government proposing changes to international financial architecture, reform of international financial institutions, or advocating the creation of new international bodies? Is the host government proposing additional regulation of financial products or institutions, making changes to existing regulatory standards, or advocating new best practices? ¶10. (SBU) In addition to proposals for dealing with non-performing assets, Rudd may propose that the G20 impose new regulations to make credit rating agencies and research houses subject to regulation aimed at restoring investor confidence in complex financial products, paralleling a similar move proposed by his government in Australia. II. Impacts of the Global Financial Crisis -------------- -------------- ¶E. What are the host government's greatest financial market concerns (providing more liquidity to financial institutions, dealing with bad assets, injecting fresh capital, improving housing markets, guaranteeing deposits, making trade finance available, etc.)? ¶11. (SBU) Australia so far has not had to deal with collapsing banks. The greatest concern for the Australian financial market is that failure to deal with nonperforming assets means that international markets will remain stalled. International credit markets are a crucial source of financing for Australian banks and businesses; if they remain stalled, the lack of credit will hurt Australian demand and damage the Australian economy. The GOA also fears that Qdamage the Australian economy. The GOA also fears that foreign banks may abandon Australia to deal with problems in their home markets, reducing available credit here for businesses. ¶12. (SBU) Following the collapse of Lehman Brothers, in September 2008 the Australian Securities and Investments Commission (ASIC) temporarily banned all short selling. Now, covered short selling with disclosure is permitted except for financial stocks; that ban is scheduled to be lifted on March 6, but it is possible fearing raids on Australia,s healthy banks, that ban could be extended. ¶13. (SBU) The GOA to date has not had to rescue any financial institutions, provide capital injections, or extend credit lines. It did introduce in October 2008 a new deposit guarantee on all deposits at authorized deposit-taking institutions (charging a fee on deposits over A$1 million),a move the GOA undertook in response to similar moves in other countries to preclude any possibility of Australian banks being disadvantaged. Fund management firms are not included, and some are considering changing to ADI status to gain access to deposit insurance. Similarly, the GOA has extended a wholesale borrowing guarantee (for a fee) for Australian banks to ensure they can still access foreign capital. The GOA also announced increased controls for credit ratings agencies and research houses. ¶14. (SBU) The Australian Securities and Investments Initiative (ASIC) placed a ban on all short-selling in September 2008. Since then it has been modified; covered short-selling with disclosure is permitted for all but financial stocks; the ban for financial stocks short-selling is scheduled to end March 6, but with recent speculation about whether foreign "predators" are waiting to pounce on Australian bank stocks, another extension is possible. ¶15. (SBU) The GOA has increased funding for the financial regulators, ASIC and the Australian Prudential Regulatory Authority (APRA, the prudential regulator for the financial services industry, with the goal of ensuring banks, insurance companies and other financial institutions can meet their obligations and provide a stable, efficient and competitive financial system). APRA, with ASIC, have been considering a principals-based approach on executive remuneration, focused on the structure of executive pay and on the incentives built into compensation plans. It will seek to encourage behavior by management that supports the interests of beneficiaries - depositors, policy holders, retirement fund members. (08 Canberra 1266) ¶F. What are the most important impacts on the host country's financial sector (what specific financial institutions have failed, which ones have had liquidity/solvency problems, has domestic lending to the corporate sector been affected, etc.)? ¶16. (SBU) No Australian deposit-taking financial institution has failed in recent years. Highly leveraged investment Qbank/infrastructure investor Babcock & Brown, already in financial difficulties due to high debt levels in early 2008 before the global financial crisis intensified, has all but collapsed. Its shares have been delisted and it is seen as "doomed." Babcock & Brown has renegotiated a debt program with its bankers that gives it up to three years to sell its assets. Macquarie Bank, Australia's other large investment bank/infrastructure investor, is healthier; it projects profits for 2009. B&B's collapse does not pose risk to the Australian financial sector, which to date remains sound. The GOA is concerned about "financial protectionism," i.e. foreign banks pulling out of Australia to deal with problems in their home markets, thus further reducing the availability of credit here. GE Money and GMAC both abruptly abandoned their Australian auto financing businesses in October 2008 (GE Money also stopped making loans for houses and small businesses),causing the GOA to scramble to find ways to fill the gap to prevent further damage to Australia's troubled auto manufacturing and sales sectors (Toyota, Ford, and local banks picked up much of the business). ¶17. (SBU) As in other countries, there are evidence and anecdotes about credit-worthy Australian businesses finding it harder to access capital, although post-September 2008 capital expenditure by Australian businesses has so far remained surprisingly quite strong. ¶G. What initiatives has the government taken in response to the financial crisis (has the government rescued financial institutions, provided capital injections or credit lines, changed its deposit insurance guarantees, provided interbank guarantees, established asset purchase programs, trade finance, etc.)? ¶18. (SBU) The October stimulus package temporarily increased the GOA first-time home buyer credit, which the Housing Industry of Australia credits with improving housing sales in December and January. Australian metropolitan housing prices were, with the exception of Perth, already cooling off following an early housing boom in Australia. III. The Broader Economic Crisis -------------- -------------- ¶H. What are the most important impacts on the host country's real economy? What steps has the host government taken to mitigate the effects of the crisis? ¶19. (SBU) In August 2008, the Australian economy was booming. Unemployment was low, labor market participation levels were at record highs, the government budget surplus was A$22 billion, commodity prices were very high, and the GOA was projecting 3% growth for Australian FY 2009 (July 1-June 30). In figures released March 4, the Australian economy contracted 0.1% in the December quarter (0.5% seasonally adjusted),following growth of 0.1% in the September quarter. Unemployment has begun to creep up, business and consumer confidence is receding, and commodity prices have plummeted. Because of its strong position entering the global economic crisis, Australia,s numbers still look comparatively good, but the GOA and Australian public and businesses are understandably concerned, especially with recession or severely curtailed growth in seven of its top ten trading partners, including the top four trade partners China, Japan, the United States, and New Zealand. Qthe United States, and New Zealand. ¶20. (SBU) The GOA has passed two stimulus packages since the global financial crisis intensified in September 2008. Rudd,s government moved quickly to propose and pass the first one in October 2008 (08 Canberra 1036),totaling A$10.4 billion, roughly 1% of GDP. Key elements included A$4.8 billion in lump sum payments to pensioners, caregivers, and retirees, plus A$3.9 billion in payments to low- and middle-income families with children, paid on December 8 immediately before the Christmas and Australian summer school holidays. The plan also increased grants for first-time home buyers, and included A$4.7 billion for rail, roads, and education infrastructure. ¶21. (SBU) The second stimulus package, totaling A$42 billion (about 4% of GDP) was announced on February 3. It will be directed into education and community infrastructure, public housing, business tax breaks and one-off cash payments to low and middle-income households, farmers, single-income families and students. ¶22. (SBU) Australia can fund these measures. Entering the current fiscal year (July 1-June 30),the GOA projected a A$22 billion budget surplus. With spending up and revenues down, Australia will end up with a budget deficit, but the GOA still has room to implement further stimulus measures should it so decide. ¶23. (SBU) In addition, the independent Reserve Bank of Australia (RBA),which was primarily concerned with inflation in early 2008, has moved very aggressively, slashing its prime cash rate by 400 basis points between September and the first week of February. The cash rate now sits at 3.25%, the lowest in Australia,s modern economic history, so the RBA still has room to move. ¶I. What has been the impact on trade, trade finance, and employment in export-oriented sectors? Are there problems financing exports and/or imports? If so, in which sectors? How is the host government attempting to address these problems? ¶24. (SBU) Seven of Australia's top ten trading partners are in recession. The Australian Bureau of Agricultural and Resource Economics (ABARE) this week released its predictions for 2009-10. Australian commodities exports are predicted to fall 17% in 2009-10, and export earnings from minerals are forecast to fall 22% in 2009-10. ABARE sees a fall of 34% in energy exports earnings, driven by lower forecast prices for oil and coal. There have been layoffs in the mining, automobile, textile, and financial sectors. Australian tourism has disappointed; despite the deep depreciation of the Australian dollar, tourism has not picked up because Australia,s top tourism markets (Japan, China, US, Europe) are all in downturns. ¶25. (SBU) There has been no significant issue in financing exports or imports. The GOA wholesale fund guarantee has helped banks access credit on the international market. ¶J. How has the crisis impacted the host government's outlook on trade and investment? Has there been a perceivable shift in how the government and population view the benefits of international trade? Are political pressures growing for Qinternational trade? Are political pressures growing for protectionist policies? Are measures being taken or contemplated that would impose costs on other countries in an attempt to meet domestic needs (e.g., tariff hikes, import licensing or other trade restrictions on, or discrimination against, foreign investors)? Is the host government considering capital controls? On the other hand, is the host government considering easing investment restrictions in an effort to encourage foreign investment? ¶26. (SBU) Recently there have been calls by some unions for "Buy Australia" procurements or similar protections, especially in the wake of the late February decision by clothing manufacturer Pacific Brands to move its manufacturing operations to China at a cost of 1850 jobs in Australia. ¶27. (SBU) The Rudd Government has not echoed such calls nor proposed such policies, and has stuck to its free trade, pro-investment rhetoric. It has denounced other countries' moves towards protectionism, urging all to observe their WTO commitments and not repeat the errors of the 1930s. It has emphasized its support for the WTO and moves to revive the Doha Round. On February 27, Australia signed a new multilateral FTA with New Zealand and the members of ASEAN, trumpeting this as a commitment to trade that will help the recovery from the current economic slowdown. ¶28. (SBU) Despite the calls by some unions, there is little political pressure for an increase in protectionism in Australia; the opposition Liberal Party also supports free trade. No controls on international capital flows are being considered; Australia relies on international capital and has denounced such proposals elsewhere. Australia has a wide-open investment regime and although "national interest" grounds exist that allow the GOA to reject investment proposals, such rejections are very rare. However, recent moves by state-owned Chinese companies to invest in Australian mining companies including Rio Tinto and Oz Metals beyond the threshold currently permitted will present the GOA will a tough decision on whether to relent on its policy of not allowing state-owned companies to hold a seat on a corporate board (required under Australian law at 15% or higher level). ¶29. (SBU) Several vulnerable sectors have been identified. Australia's automobile manufacturing sector was troubled even before the economic crisis intensified. The GOA announced a plan on November 10 totaling A$6.2 billion for the auto industry, which seeks to generate more private investment and to encourage the production of "green" cars. All three remaining domestic manufacturers - General Motors/Holden, Ford, and Toyota - have received funding. However, the GOA has stuck to its commitment to reduce tariffs on auto imports from 10% to 5% in 2010. ¶30. (SBU) In January the GOA in conjunction with Australia's Big Four banks announced a A$4 billion plan for the commercial property sector. The plan is designed to support Qcommercial property sector. The plan is designed to support the construction sector and to cap Big Four banks' financial exposure to commercial property projects. It also is intended to help fill any potential gap should foreign banks not renew their loans due to problems in their home markets. ¶K. Do financial sector/industry bailouts or stimulus packages have local preferences? Is the government acting to influence the value of its currency (for example, to improve export competitiveness)? ¶31. (SBU) The two stimulus packages have no local preference provisions. The state of Victoria announced in November it would draft a new infrastructure plan that will include some local (Australia and New Zealand) preferences for small and medium enterprises, which Victoria says will comply with government procurement obligations under the US-Australia FTA. The deposit guarantees are available to foreign as well as Australian authorized deposit-taking institutions. ¶32. (SBU) The Australian dollar has declined dramatically, from a peak in July 2008 of US$.985 to its current level, US$.633, tracking declines in international commodity prices. Far from trying to devalue the Australian dollar, the RBA has intervened to prevent the Australian dollar from declining further. IV. Near-term Outlook and Political/Foreign Policy Ramifications -------------- -------------- ¶L. How has the outlook for growth, inflation, the current account, exchange rates, and the budget deficit changed? What are the biggest economic challenges facing the host country in the coming months and year? How is this crisis expected to affect employment? ¶33. (SBU) Growth for the current fiscal year (July 1-June 30) was originally projected to be 3.0%. The December quarter of 2008 saw GDP decline 0.1% (0.5% seasonally adjusted) following anemic 0.1% growth in the September quarter, and many observers expect Australia will enter into recession in the current quarter. The current account has actually improved slightly. In figures announced this week, Australia's current account deficit improved from A$9.4 billion to A$6.5 billion in the December quarter, and the surplus on goods and services improved from A$1.4 billion to A$4.1 billion, because a large decrease in imports swamped a smaller drop in exports. The Australian dollar has declined dramatically, from a peak in July 2008 of US$.985 to its current level, US$.633, tracking declines in international commodity prices. Australian business prefers a range of around US$.75-.80 for the Australian dollar. ¶34. (SBU) Unemployment has edged up to about 4.6%, but will definitely rise, with some predictions it could hit 8-9% later in 2009. The GOA has passed measures to fund continued training and apprenticeships with companies, hoping to prevent additional lay-offs and seeking to take advantage of the slowdown to improve skills. Australia's unemployment benefits are funded in the federal budget through income taxes. The GOA has had no difficulty to date in meeting unemployment payments, nor any protests about the impact of Qunemployment payments, nor any protests about the impact of the economic crisis on social benefits. In addition, much of the two stimulus spending was in the form of cash assistance directly to Australian families. ¶M. What are the potential political ramifications for the host country? How might the crisis directly impact leadership? Is a change of government a possibility? What are the social and security ramifications of the crisis? ¶35. (SBU) The Rudd Government has fared well despite deteriorating economic conditions, and is in no real political danger at the moment. PM Rudd continues to outpace his opposite number, Liberal Party leader Malcolm Turnbull, by a 2-1 margin in "preferred PM" polls, and Rudd's Australian Labor Party (ALP) enjoys a comfortable lead in national public opinion polls. Specifically, Australian voters give Rudd's government high marks so far for its handling of the economic crisis. Under Australian law, Rudd will have to hold an election by early 2011. Most see 2010 as more likely, although there has been speculation recently that Rudd could call an early election for later in 2009. ¶36. (SBU) The state of Queensland will vote on March 21 as Premier Anna Bligh (ALP) tries to win a full term now rather than waiting till later when economic conditions may be worse. Although economic issues are important, there are other Queensland-specific issues at play so this vote cannot necessarily be taken as a national indicator. ¶N. Has the host government criticized and/or become significantly more critical of the United States for its role in the crisis or for provisions in the U.S. economic stimulus package (such as the "Buy American" provision)? ¶37. (SBU) There were some grumbles by GOA officials about "observing WTO and FTA commitments" in the press when the "Buy America" provision first appeared; the media's commentary was highly critical. Many Australian political figures, including PM Kevin Rudd, have criticized the role of the financial regulatory regime in the US for allowing conditions which caused the current crisis. Such public criticism has been relatively mild; far more criticism has been leveled at Wall Street itself and the culture of greed and careless risk-taking. ¶O. How might the crisis affect host government foreign or security policy and U.S. interests? ¶38. (SBU) Australia remains politically stable. We do not anticipate any developments here that would significantly change its foreign or security policy, or hurt US interests. Australia is the largest consumer of US military equipment in Asia, however, and we expect some planned procurement of big ticket items to be scaled back or deferred when the GOA's Defence White Paper is released in April, despite the Rudd government's commitment to 3% annual increase in real defense spending through 2018. ¶P. How might the crisis impact the host government's ability and commitment to sustain foreign assistance levels? ¶39. (SBU) The crisis has not led to any decrease in Australia's foreign assistance levels. On the contrary, QAustralia's foreign assistance levels. On the contrary, Australia has provided an additional A$1 billion loan to Indonesia to assist that country through the global economic crisis. However, the GOA will likely be looking at ways to reduce its budget deficit; it is possible though we believe it unlikely that foreign assistance could be cut. In any case, the effective scope of Australia's foreign assistance has declined significantly along with the value of the Australian dollar since July 2008. ¶Q. How might the crisis impact government support for global peacekeeping operations and commitments to NATO operations, e.g., in Afghanistan? ¶40. (SBU) The GOA takes its role in Afghanistan and elsewhere (East Timor, Solomon Islands, for example) very seriously. Prime Minister Rudd has repeatedly stated that Australia is in Afghanistan for the "long haul" and that this is a war that the allies "cannot and must not lose." Barring an extraordinarily serious and prolonged economic downturn of Great Depression levels, we don't see Australia significantly reducing its commitments for budgetary reasons. CLUNE