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Concern builds around European banking system
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Asset Check - Daryl Dixon
The Canberra Times, 18 July 2010
While world sharemarkets performed strongly this week, there was less positive news on the interest rate front despite the Reserve Bank's decision to temporarily leave the official rate on hold. The major concern is that the European banking system will have to refinance up to $5 trillion of short-term borrowings over the next 18 months.
The $140 billion that the Australian banks have to refinance from overseas lenders over the same period is relatively small by comparison. Nevertheless, despite the good credit rating of all our major banks, overseas lenders for commonsense prudential reasons are prepared to allocate only a small percentage of their total loan portfolio to a small economy such as Australia.
At best, the overseas lenders will allocate only between 3 percent and 5 percent of their portfolios to Australia bank debt unless the Federal Government steps in again to guarantee their loans. In the race for funds in the period ahead, the odds are increasing that the larger European countries will need to intervene in credit markets to help European Union banks, especially those in the weaker economies, refinance their debts.
Just how the refinancing of the European banks works out remains to be seen but already the Australian banks are facing higher costs in refinancing their short-term overseas borrowings. The banks are also warning that tougher times are ahead for small business because of the removal of the stimulus incentives and the interest rate increases that have already happened.
At the same time, small business and commercial property borrowers are complaining about the tighter banking standards and the higher risk margins already being applied to their borrowings. This action on the part of all the banks flows from the losses experienced in their sectors of the market over the past two years.
In this general context, current and potential new borrowers need to be alert to the possibility that our major lenders will continue to put pressure on borrowers by further increasing interest rates or reducing credit limits. One strategy worth considering is to use the current hold on official interest rates as an opportunity to increase loan repayments.
This will help if and when rates increase again. New borrowers also need to factor in the possibility of future rate increases in assessing their affordability and their capacity to service the loan being sought.
Daryl Dixon is executive chairman of Dixon Advisory.
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