Standard and Poor's Bullish on Australian Economy

UNCLAS SECTION 01 OF 02 MELBOURNE 000081 SENSITIVE SIPDIS E.O. 12958: N/A TAGS: ECON EFIN ETRD AS SUBJECT: Standard and Poor's Bullish on Australian Economy Ref: A) Melbourne 58, B) Canberra 575 Summary -------------- ¶1. (SBU) Analysts at Standard and Poor's Melbourne headquarters predict a mild and short recession in Australia. The country's states remain among the best rated in the world despite the February downgrading of Queensland from AAA to AA. While Australia maintains a substantial current account deficit funded almost entirely by wholesale foreign borrowing, S&P is bullish on Australia's dominant big four banks. Some pundits believe that there are still tough times ahead for the Australian economy, but observers are increasingly optimistic due to growing optimism about China's demand for Australian resource exports. End Summary. Optimistic Outlook -------------- ¶2. (SBU) Standard and Poor's (S&P) Managing Director for Australia and New Zealand John Bailey and two senior analysts told visiting Econcouns and Congenoff July 13 that they are optimistic about the direction of the Australian economy. While Australia remains heavily dependent on Chinese exports, the country is still not meeting Chinese demand for raw materials. Aggressive fiscal and monetary policies have helped blunt the impact of the global slowdown. They assessed that Australian employers are "hoarding" labor by increasing their numbers of part time workers rather than laying off staff. Consumer spending has held up better than expected as a result of steep falls in interest rates as well as government stimulus. Lower interest rates and the Government's incentives for first time home buyers have propped up the residential market, which has avoided significant declines and will probably strengthen slightly due to strong demand growth. ¶3. (SBU) Turning to international regulation, Bailey expressed some concern about Australia getting ahead of the rest of the world in regulating ratings agencies. According to Bailey, Australia may be the first country to license ratings agencies and he contended that this must be harmonized with International Organization of Securities Commissions (IOSCO) standards. Bailey pointed out, however, that the GOA has been sensitive to S&P's concerns and that he is more worried about regulations coming out of the European Union countries. Healthy States, Healthy Nation -------------- ¶4. (SBU) S&P rates Australia's states as AAA/stable except Queensland, Tasmania and New South Wales. The ratings agency sees the credit quality of Australia's states as among the best for state governments in the world. (Note: The Northern Territory is not rated. End note.) S&P's analysts explained that they downgraded Queensland to AA+/stable in February due to that state's decision to proceed with planned infrastructure spending even though the global slowdown began to bite into its revenues. This income includes Goods and Services Tax (GST -- which is collected by the federal government and distributed to the states to cover costs such as health and education) as well as "stamp duties" or revenues collected by the states from the sale of real estate and cars. ¶5. (SBU) Australia's other states have made provisions to reduce planned capital expenditure in order to avoid increasing their debt burden. New South Wales' outlook fell to AAA/negative in August 2008 despite efforts to reduce capital spending; S&P determined that the state may not be able to effectively shut off planned infrastructure spending. Tasmania is rated AA+/stable due to relatively low growth, lower incomes, and a higher dependence on federal revenue streams. Strong Banks Mitigate Current Account Deficit -------------- ¶6. (SBU) Bailey and his analysts contend that Australia's vulnerabilities flowing from its substantial current account deficit (reftels) are offset by the strength of its big four banks (Commonwealth, Westpac, Australia New Zealand Banking Group - ANZ, and the National Australia Bank - NAB). S&P maintains AA/stable ratings on all four banks because the ratings agency believes the global downturn will have a relatively limited impact on the MELBOURNE 00000081 002 OF 002 Australian economy. In addition, Australia's "four pillars" policy (which prevents these banks from merging or being acquired) has insulated them from external competition while cementing their hold over traditional banking markets in Australia and New Zealand. Banking executives have told us that they have successfully increased their margins in recent months despite historically low interest rates. Comment -------------- ¶7. (SBU) While the consensus view among many of Melbourne's economic experts is beginning to crystallize around the idea that Australia's recession will likely be short and mild, some maintain that the worst may still be ahead for the Australian economy. Most Australians agree, however, that Australia's well-being is and will continue to be intimately tied to a sustained Chinese appetite for its commodities exports. THURSTON