Iceland - NZ to a greater degree?

Iceland Unexpectedly Raises Benchmark Rate to 14.25%
By Tasneem Brogger

Dec. 21 (Bloomberg) --

Iceland's central bank unexpectedly raised its benchmark interest rate to a record 14.25 percent after a widening current account deficit threatened to weaken the krona and push up inflation.
Sedlabanki increased the repurchase rate by a quarter-point, the 18th increase since May 2004, the Reykjavik-based bank said on its Web site today. Six out of eight economists surveyed by Bloomberg had forecast rates would be left unchanged.
Higher borrowing costs may spark a recession in an economy that was one of Europe's fastest growing last year, expanding 7.5 percent. Investment in aluminum smelters, which fueled growth, has sucked in imports, pushing the current account deficit to 27 percent of gross domestic product in the third quarter.
They ``needed to do this to maintain their credibility,'' said Lars Christensen, a senior strategist at Danske Bank A/S in Copenhagen, one of two analysts to predict today's move. ``They're watching the krona. If it remains stable until the next meeting, then this is the peak, but they're not out of the woods yet.''
The krona dropped 4.7 percent against the euro last month on concern Iceland will struggle to finance the current account gap. Declines in the krona have fueled inflation, which at 7 percent in December was almost triple the 2.5 percent target.
The krona dropped 0.6 percent against the euro, after earlier gaining as much as 0.5 percent, to trade at 92.05 as of 3:37 p.m. in Reykjavik.
`Hard Landing'
Hedge funds poured money into Iceland last year, sparking a 10.3 percent gain in the currency, as they sought to take advantage of high yields as both U.S. and European interest rates hovered at record lows. Demand for Icelandic securities also helped push up the index of the country's top 15 stocks 59 percent in 2005.
``The risk is that the bank's stance will contribute to a hard landing and recession, and this may be the reason why the krona is weakening despite the rate support,'' said Beat Siegenthaler, a senior strategist at TD securities in London.
Economic growth slowed to an annual 0.8 percent in the third quarter from 2.6 percent in the second, the statistics office said last week.
The central bank is ``risking a hard landing, considering the latest economic data,'' said Thora Helgadottir, an economist at Kaupthing Bank hf in Reykjavik, Iceland's biggest lender, which also forecast the rate increase.
At 14.25 percent, Iceland's benchmark rate is 9 percentage points higher than the U.S. Fed Funds rate and 10.75 points higher than the key rate shared by the 12 euro member countries. Turkey overnight borrowing rate is currently 17.5 percent, while Brazil's benchmark rate is 13.25 percent.
Labor Market
The bank said today's move responded to a ``very tight'' labor market, with unemployment at 1.1 percent, adding it sees ``little likelihood of a substantial improvement'' in the current account gap this quarter.
Inflation and further moves from the central bank ``depend heavily on the krona remaining relatively strong,'' the bank said.
The central bank has raised rates after inflation soared, peaking at 8.6 percent in August, fueled by a 30 percent drop in the krona against the euro in the first six months of the year. The krona decline came after Fitch Ratings Ltd. on Feb. 21 cut to negative its outlook on Iceland's debt rating, citing the current account deficit, external debt and overheating.
Eighty-five percent of the country's external debt, which stood at four times the size of the economy in September, stems from its three biggest banks, Kaupthing Bank hf, Glitnir Bank hf, and Landsbanki Islands hf, according to central bank data. The banks have sold debt to fund expansion outside the borders of the island of 300,000 inhabitants.
The economy expanded last year, led by a 38 percent jump in investment, as companies including Alcoa Inc. the world's biggest aluminum maker, took advantage of hydropower and geothermal energy to build smelters.
Sedlabanki ``is caught in a very difficult position,'' as evidence mounts that the economy may be heading toward recession, Fitch Senior Director Paul Rawkins said in an interview yesterday. ``It wouldn't be surprising if there were a few quarters of negative growth.''

NZ Property- Predictions for 2007

How your home will fare in 2007
Sunday December 10, 2006By Ann Newbery

Slowdowns, chills, falls, levelling. These words were used relentlessly this year to describe the outlook for New Zealand's property market. But experts were wrong, largely underestimating the strength of the market. Even this month's sales are much more robust than the Reserve Bank's projections and the warnings of governor, Alan Bollard, who consistently bemoans New Zealanders' preoccupation with housing ahead of owning shares in companies.
"He's like an old fella standing on his porch, shaking his walking stick at the kids on bikes racing past," said BNZ chief economist Tony Alexander. So what will the market be like in 2007? Place your bets now as we ask the experts to give us their forecasts.
Gareth Kiernan Infometrics senior economist
Kiernan said it was only now, after a five-year boom, that the property market was finally seeing signs of the long-predicted slowdown. Higher interest rates and the effect of the high Kiwi dollar on export incomes had combined to affect property prices in provincial areas, with Kaikoura and Mackenzie Country particularly hurting, he said.
The outlook is good for home buyers, definitely in Wellington and probably in Auckland, areas where employment growth and migration is still occurring. He said high numbers of new dwelling consents in the last months of 2006 suggested there would be an oversupply of new homes by mid-2007, which could keep house price growth down or at least stable. As a result, Kiernan said, property buyers would have more time to make decisions and not face 2006 pressures in paying top-dollar to get into the market and beat off competition.
The outlook is not so good for provincial areas. The catch-up boom of the last few years was all but over, Kiernan said. Coastal property areas and resort locations like Queenstown may also face a chill. "The wider economy is slowing and income growth is not quite as sure as, maybe, two years ago," he said. "One of the first things you cross off your list if things are a bit tight is a holiday home. I wouldn't pick a lot of growth in those over 2007."
Another thing: Expect status quo for investors and renters in 2007. "There is anecdotal evidence of too much rental property out there at the moment but at the same time affordability is pretty tough for first-home buyers." While some in the industry suspect some investors may sell properties to release equity, Kiernan's number-crunching suggests the trend will be really noticeable about 2010-2015 when a large number of baby boomers hit retirement.
Stephen HartPublisher of Where To Live In Auckland
Hart said Auckland's rising house prices had defied naysayers. He said 2007 would see a blurring of "demarcation lines" in gentrifying areas - streets near the borders of popular suburbs will increasingly prove popular, leading to ever-higher prices.
The outlook is good for home buyers. "The momentum is switching from a sellers' market to becoming a buyers' market," said Hart. House prices might still rise in 2007 but data now shows they are becoming more difficult to sell. He said central city suburbs in grammar school zones were still good bets.
The outlook is not so good for new development suburbs. While such areas as Auckland's Stonefields (at Mt Wellington quarry) and "the Dannemoras and Flat Bushes" might indeed sell well, Hart said he was sceptical of their attractions and would always pick an area that had a proven track record. "Are we really going to trust the developers to tell us what the personality and the nature of these new suburbs are going to be?" He also predicts that real estate agents will have to work harder in 2007 as buyers become noticeably fussier. "[Buyers] will require more reassurance that a house is all it promises to be - and they're right to think like that." Expect fewer auctions next year and buyers demanding more evidence of sale prices. "'Sale By Negotiation' marketing is the hallmark of the [previous] sellers' marketplace," said Hart. "That doesn't help buyers and 2007 is all about helping buyers."
Another thing: The publisher has noticed a changing attitude towards blue-collar suburbs and predicts more of the same for the year ahead.
"I do hear people happy to admit they live in Mt Wellington where once they wouldn't," he said. "It won't be too far down the track that Mt Wellington conjures up images that Ellerslie now does."
Andrew KingAuckland Property Investors Association
King agreed house prices were surprisingly robust during 2006. "Most areas in Auckland have continued to increase in value. Rents have also increased but not as much as we would have thought," he said. King expects 2007 will see the current growth in house prices to stall and by the end of next year a "neutral situation" to emerge in which rents will increase, possibly significantly if immigration is up and new building consents fall.
The outlook is good for vendors selling do-ups. "The majority of investors will not be looking to buy an ordinary house because the rental yields have fallen by about 30 per cent over the last two or three years and the return on that ordinary house simply isn't sufficient to provide a decent cashflow given that house prices are likely to remain static." In 2007 he believes canny investors should be looking for properties they can add value to.
The outlook is not so good for investors who want a big return from "ordinary houses" (see above).
Another thing: King said 2007 would see a trend towards established investors selling some properties to enjoy their time in the sun.
Kieran Trass Property market analyst
Trass has, unlike others, consistently predicted that the property market would be strong throughout 2006.
The outlook is good for banks, who are stretching their criteria (100 per cent loans anyone?) to expand their client base - and for homeowners who qualify and are prepared to take these mortgages on.
The outlook is not so good for small-town New Zealand, where yields are already too low for property investors. Also in trouble? Auckland CBD apartment market - "there's far too many and not enough people want them" - and coastal property; "potentially in for tough times".
Another thing:"If you're an investor you'd be better off to buy in a better area because there's too many investors chasing the same stock in the cheaper areas, pushing the values of those properties up out of proportion."
Tony Alexander BNZ chief economist
Alexander said the property market had performed surprisingly well in 2006, despite insiders picking it to slow down in response to slower jobs growth, a slight rise in interest rates and a feeling that investors would exercise caution. "Which they didn't."
The outlook is good for long-term investors who aren't highly indebted. He advises those looking at residential property investment to "place a higher than usual emphasis on how you might alter the property in the next year or two to get your rent up."
The outlook is not so good for first-home buyers waiting for prices to drop - or at least stop climbing. Incomes may go up in 2007 but so will house prices. Alexander picks house price inflation slowing to below 5 per cent by the end of 2007. "The environment will be less panicked, it's going to settle down but prices will on average still rise a bit." Previously high-performing regions may also suffer. "Farm incomes are under a wee bit of pressure from the high currency and secondly, farmers are going through a period of consolidation that is going to continue for a while." He says local and out-of-town regional investors may also get a reality check on the sustainability of rental prices considering income levels in these areas.
Another thing: On beachfront and seaside property: "watch out for the tsunamis and global warming! It always amazes me that everyone seems to show such high favouritism to those sorts of properties and they are going to be the worst affected by our climate change."
Murray Cleland Real Estate Institute president
Cleland said the market had stayed strong throughout 2006. "People kept telling us we were going to see a drop but crikey it hasn't happened," he said. A shortage of listings in 2006 had kept buyers keen "and that's still there today".
The outlook is good for vendors of lifestyle blocks. Cleland said these properties were star performers in 2006 and that wouldn't change. "There's nothing surer than people liking that way of living." Despite other predictions, Cleland said small towns would perform solidly. "I've grown up in the rural communities and they don't suffer ups and downs that some of the cities do. When you come to the farming sector, you find farmers will tighten their belt, they'll ride through any downturn and they'll come out the other side pretty solid."
The outlook is not so good for first-home buyers. "If interest rates rise, that'll put pressure on." He also thinks rental returns will stay much the same for investors.
Another thing: The great rush to water has peaked. "It'll be a levelling out period [in 2007] for the coastal stuff," said Cleland.
The future
* A buyers' market in 2007 - but first-home buyers will still find it tough.
* Rural regions will suffer.
* Status quo for rental investors.
* Auckland CBD apartment market will be vulnerable.
* Over-supply of new homes by mid-2007.
* Lifestyle blocks will continue to be star performers.
* Real estate agents will have to work harder to reassure buyers.

US Dollar, December 2006

Monty Guild , December 6th, 2006


THE PICTURE FOR U.S. SPENDING RESTRAINT IS NOT BRIGHT, AND THE GLOBAL CURRENCY MARKETS FINALLY UNDERSTAND THE CONSEQUENCES

The global currency monitors look around and see Lebanon, Palestine, Iraq and Iran. They hear arguments for a Shiite state in eastern Iraq, where most of the oil fields are and they realize that Iran has won the first battle in the war for energy assets in the Iraq region. We predict that many more battles for energy assets in this region may develop soon.
Seeing these developments they say to themselves the following: The U.S. will be spending money to secure this region while maintaining a full plate of domestic spending. They also recall the statement by Milton Friedman who famously said, “Nothing is so permanent as a temporary government program.” We can argue Middle East military spending started as a temporary government program and has grown to a much bigger and more permanent program.

THE MARKETS ARE REALIZING THAT THE US BUDGET DEFICITS ARE HERE TO STAY
This means more bond sales by the U.S., more interest expense and bigger deficits. It also requires finding someone to buy the bonds.
Many friendly countries have been going through the following process for the last few months, and realizing that a balanced U.S. budget is far in the future.
1. Realizing that President Bush is militarily and economically overextended.2. Realizing that the U.S. is in a very weak negotiating position, many countries are using the current opportunity to protect their big asset in U.S. dollar debt.
How will the friends of the U.S. do this?
1. By shifting their assets from the U.S. dollar to the Euro or some other currency.2. By buying more gold to hold as an asset in their treasury instead of IOU’s from a free spending, heavy bond issuing country.3. By stockpiling more base metals and oil.
They want to diversify out of the dollar, but want to do so without setting off a major rout of the dollar. It is a delicate balance, especially for the friends of the U.S.
The enemies of the U.S. have an even bigger goal. It is to destroy the U.S. as an international power. In this effort, they are being aided unwittingly by those who will spend public funds to a level beyond the means of the U.S. economy to support the expenditures. This unwise allocation of resources will lead to economic destruction if not identified and corrected.
“The Rise and Fall of the Great Powers” by Paul Kennedy is a book that I have mentioned in these memos several times over the past years. The story it tells is a familiar one to students of economic history.
A major country tries to expand its political clout beyond it borders on an international or global level. In order to do this, it builds a big and expensive military and engages itself as the world’s policeman. Eventually, its military spending outstrips its ability to pay, and it loses its military, economic and political power. Part of this loss of power is the loss of its reputation as an economic power, and as a safe place to invest. Once one’s reputation is lost, one’s currency loses its allure to foreign investors.

LOOK AROUND
The dollar is falling because of the problems outlined in above. What we see ahead is more of the same. But why?How can the U.S. quickly correct the problem? I cannot think of a quick fix for this problem. All the solutions, even the most radical, will take at a minimum of several years. Many will take much longer.
A recent study by State Street Research points out that U.S. consumption of goods and services exceeds domestic income by 7 %. In recent years, people have borrowed against their assets to finance this spending. The study shows that asset values (mainly real estate) and household debt would have to rise forever in relation to incomes to keep the current U.S. growth rate trending at the same level.
I would now like to quote John Plender of the Financial Times who said in an article entitled, “The Waning Dollar and the Brave new World” published Dec 4 2006:
“Markets are adjustment mechanisms. When liberalized, as the capital markets have been on a global basis, they tolerate extremes for longer while retaining the potential to revert more brutally to the mean when policy fails to address economic problems.”
Most obviously, U.S. economic policy has failed to address the problem of our triple deficits. In my opinion, a REVERSION TO THE MEAN would send the dollar to much lower levels versus other major currencies. Part of the adjustment process could easily be the U.S. standard of living falling for an extended period of time. Not a pretty picture.

SUMMARY
PROTECT YOURSELF
Live within your means, and vote for people who will have the U.S. live within its means. Own foreign currencies, precious metals and foreign stocks, which may hold their value much better than the U.S. dollar over the long run.
These are themes we have supported for a long time. The recent and continuing decline in the U.S. dollar brings them more into focus and should cause more investors to get serious about protecting themselves and beginning to act to solve the problem.

US Homes and Mortgages

Housing Hollowed Out
By Alan Hall

The housing market is beginning to resemble a watermelon I once floated in a pond overnight to cool. The next day a small hole was in one end and the red interior was completely gone, hollowed out to the sour green rind, sculpted by little teeth. Some muskrat had a feast.
That memory returned when I saw a chart in this month’s Elliott Wave Financial Forecast titled, “A Historic Hollowing of the Housing Stock.” It shows a recent near-vertical rise to a half-century record high in the percentage of unoccupied U.S. homes. No stealthy muskrats at work in this case; it’s a bear market in plain sight.
During the housing mania, the risky, sub-prime segment of the mortgage industry grew 520% between 2001 and 2005. Lenders ceased demanding full documentation of income and assets. They offered “piggyback” loans financed at 90% to 100% of the home price, and didn’t require private mortgage insurance on profitable, high-risk, “sub-prime” mortgages. Loan officers and mortgage brokers coached borrowers to inflate their incomes, and many couldn’t even make their first payment. After short-term rates began rising, lenders kept “teaser” rates low, meaning that the first payment adjustment would be big. Then, in further arcane chicanery, many of these loans were packaged and sold to investors in collateralized debt obligations (CDO’s), glazing another pane in the glass house of derivatives.
Newspaper articles today describe an accelerating wave of mortgage defaults. As bankers, asset managers and the credit-poor awake from easy-credit dreamland, they find the sub-prime ship submerging. “We are a bit surprised at how fast this has unraveled,” said the head of asset-backed securities research at U.B.S.
Sleepyheads are still soothed by the lullabies of economists… the pseudo-savvy seers don’t “expect any significant harm to the nation’s economy or financial systems.” That said, the news articles continue like a Klaxon alarm in the Nautilus:
H&R Block is considering the sale of its sub-prime lending company that lost $39 million in the second quarter.
KeyCorp “changing strategic priorities,” and selling its sub-prime Champion Mortgage for 40% below what they expected.
The National Association of Realtor’s index for pending home sales fell 1.7% from September to October and was down 13.2% from a year earlier.
Delinquency rates rose steadily in the last half of 2005 and spiked in 2006. The figures don’t include quickly defaulted loans that lenders were forced to repurchase.
In October, borrowers were 60 days or more behind on payments on nearly 4% of the sub-prime loans packaged in mortgage securities.
Toll Brothers, the largest builder of luxury homes in the US has seen its stock price slide 45 % over the last 18 months, and said fourth-quarter net income plunged 44%.
Believing that the real estate decline will be confined to certain regions and sectors -- like the new ghost towns near Phoenix -- and that effects of it won’t spread through our financial house of cards… may be like trusting a muskrat with a watermelon.

Debt Levels

Debt, house prices out of whack with incomes - BNZ 02 December 2006


At least one bank is warning that New Zealanders are headed for trouble if debt servicing and house price levels continue to rocket out of proportion to income.
The Bank of New Zealand notes the average level of debt has doubled since 2001, but incomes have risen by barely a quarter.
More crucially, the amount of average debt people are servicing has ballooned from 7.8 per cent of income in March 2001, to 13.1 per cent in March 2006. The BNZ believes it will be closer to 15 per cent by next year.
While asset values for both houses and farms have also doubled during that time, people who base their wealth on house values are vulnerable, BNZ economist Craig Ebert says.
"A doubling of debt, asset prices, and interest payments, would be fine if incomes had increased by anywhere near a similar proportion. But they clearly haven't.
"It's all grossly unsustainable, but a tipping point doesn't seem imminent."
And recent strong consumer and housing data indicates the spending binge is not over yet.
Mr Ebert says debt accumulation would have to halve from its recent pace in order to create the domestic slowdown that the Reserve Bank is hoping for.
"The pace of consumer borrowing is still clearly way too fast to be consistent with the slump the RBNZ expects of the sector, in particular the housing market, in the period ahead".
But while the labour market remains strong, economists agree it will keep consumption rolling and the bogey of debt defaulting at bay.
"To our mind, a shakedown of the overly tight labour market remains the key to a consumer sector adjustment," Mr Ebert said.
"Yet we can't see much chance of this happening with activity indicators now picking up, and employment intentions, in particular, back to a strong level." The rise in debt and total household net wealth is a global phenomenon.
The OECD notes that wealth levels have risen not just on the back of house values but also the recovery of equity markets after the dot-com bubble burst.
In relation to other countries, New Zealand's debt levels are not greatly out of whack. Australians have more debt, says National Bank chief economist Cameron Bagrie, but our interest rates are higher than theirs, pushing up our debt servicing levels.
Australian debt servicing levels are about 8.5 per cent of disposable income, and in the US, it's nearer to 8 per cent.
But our houses are less affordable. New Zealand's house prices are about eight times the average disposable income, while in Australia they are six times, and five to six times in the US.
New Zealand's household debt-to-income ratio went from 105.1 per cent in March 2001 to 153.2 per cent five years later. The US ratio went from 100.7 per cent to 132.5, while Australia's rose from 98.2 to 159 per cent.
As an illustration of how debt has surpassed our income, gross disposable household income increased by just 23 per cent in the five years to March.
But household debt has risen to more than $17 billion of debt over the last 12 months, triple the annual figure five years ago.
The rural situation is no better, Mr Ebert says. Farm values have doubled in the last five years but so has debt.
Gross farm income has drifted lower to around $2.9b from $4.5b in 2000/01, and agricultural debt-to-income ratios have doubled in the five years to December 2005.
Farm prices are double the level of agricultural export receipts and debt is up nearly 15 per cent in the last year to $30.7 billion.
Mr Ebert says it is no coincidence that household savings had fallen $10 billion since 2001 or that a similar blow-out had occurred in the current account deficit.
It is unclear where it will all turn, but he believes the soft landing which every one is hoping for may just become an "abrupt adjustment".