Wall Street a warning for Morrison and Albanese

Australia’s politicians should look carefully what happened in the US overnight. Picture: Spencer Platt / Getty Images/ AFP

All Australians, but particularly Prime Ministerial candidates, Scott Morrison, and Anthony Albanese plus embattled Reserve Bank governor Philip Lowe should study carefully what happened in the US leading to the sharp market fall.

Our retailers and the overall Australian economy are in danger of experiencing a version of the current US syndrome.

But I can’t emphasise too strongly that right now a large number of Australian retailers and wide sections of the business community are trading very well on the back of low unemployment. They want higher wages to increase spending power and believe they can pass on the higher costs. Those businesses that can’t pass on higher costs have their back to the wall.

As we have seen so often when the US market begins to tank, the downward thrust is multiplied by an avalanche of shorters – traders who sell stock they don’t own. (A reverse impact takes place when stocks rise attracting a bunch of long traders into the market.)

Nevertheless, behind the latest 4 per cent fall on Wall Street are a series of fundamental US changes that can easily translate into Australia.

In very simple terms, like Australia, real US inflation is running above 8 per cent on the basis of the latest quarterly figures (the 5.1 per cent widely quoted inflation rate in Australia does not reflect the true situation). American wages, like those here, are not keeping pace with the increasing cost of living. Again like Australia, the US central bank simply did not understand what was happening in the real economy and waited too long to raise interest rates.

In hindsight the first cracks in US consumer behaviour came late last year when they turned to credit cards to pay for the rise in food and energy prices. Since then the pace of price hikes has accelerated and has been joined by massive price increases in Chinese imports plus supply chain delays. Credit card borrowing could only go so far and US consumers started to change their spending patterns to keep food on the table. They reduced their spending on discretionary goods like clothing. Retailers with large clothing sales like Target and Walmart have suffered reverses that has shocked Wall Street.

But US consumer spending cuts did not stop at clothing. They reduced spending in a wide range of discretionary retailers, in particular the nearest US equivalent to Bunnings, Lowe’s, which partnered with Woolworths in the ill-fated Master’s adventure and has began to see Americans cut back on home renovations.

Lowe’s sales have disappointed the market.

US consumers are very angry at real wage cuts and the long suffering US union movement is starting to see a revival on the back of demands for much more pay. If these trends continue then we’re looking at a very different US capital system.

In times like this you would normally expect the US central bank to lower interest rates to stimulate the economy. Instead, because of its foolishness in keeping rates too low for too long, the Federal Reserve is now being forced to increase interest rates sharply to try and get inflation under control.

High interest rates are a blunt instrument because they do not impact the price of oil, Chinese imports and imported food. What higher rates do is make it harder for retailers to pass on these cost increases. Retailers also try to push down prices of local goods and services. Overtime it works via better productivity but the 2022 experience will be made more painful by the costs of decarbonising energy and a lack of exploration for oil.

It is worth noting that Tesla shares have fallen 31 per cent this month which means that Elon Musk has far less security to back the required borrowings to buy Twitter, which is one reason why he reducing his offer price. The Tesla experience will be duplicated in many merger proposals that were on the table prior to the rout on Wall Street.

Meanwhile people with spare cash wondering what to do with it have returned to buying US bonds and the 10-year bond rate fell.

Australian consumers have not yet reached the US stage, although I wonder whether the Afterpay boom has become a way of delaying payments to buffer lower real wages and keep food on the table.

If Anthony Albanese becomes Prime Minister after Saturday’s election, it will be mainly attributed to his perceived backing of a five per cent wage rise that will help consumers address falling real income.

But it will also boost inflation and force Philip Lowe into even higher interest rate rises which will impact one of the most vulnerable parts of our community – the people who borrowed $650bn in the last two years (excluding refinancing) to buy houses at high prices.