analysis
Donald Trump's tariffs hit all the RBA's key risks for financial stability
Donald Trump announced his list of new tariffs after the Reserve Bank had finished writing its latest Financial Stability Review.
Donald Trump's tariff announcement threatens to trigger a number of key potential financial vulnerabilities, according to the latest Reserve Bank review.
Twice a year, Australia's central bank publishes a financial stability review, looking at the key risks to the nation's banks, superannuation, insurance and financial markets.
The latest report was obviously prepared before US President Donald Trump's tariff announcement on Wednesday, local time.
And, while it concludes Australian financial institutions generally remain secure and well-placed to weather any shocks, the report also identifies three key risks to Australia, all of which appear much closer to being realised after the sweeping global tariff regime announced at the White House.
Risk number one identified by the RBA:
"Compressed risk premia and concentration of exposures in equity markets increase the likelihood that adverse news — triggered by any number of global risks in a highly uncertain environment — sparks a disorderly correction in global asset prices."
Check. Equity markets, already on the slide as it became clearer that Trump would push ahead with his tariff threats, have generally fallen sharply in response to the White House announcement.
Halfway through Australia's trading day, the ASX 200 index was only down 1.2 per cent, but Japan's Nikkei was off about 2.6 per cent, having been down more than 4 per cent at one point, the US S&P 500 futures index had dropped 2.8 per cent, while the tech-heavy Nasdaq futures were down 3.4 per cent.
China's benchmark Shanghai index was only slightly in the red — off 0.1 per cent — perhaps in anticipation of stimulus the Chinese government and central bank may implement to offset export losses to the US.
Risk number two:
"US tariffs on Chinese imports may necessitate a further policy response from the Chinese authorities to support economic activity. If macro-financial risks were to materialise in China, stress could spill over into the global financial system, including Australia, via trade channels and increased risk aversion in global financial markets."
We don't know yet exactly what China's response will be, but we can be certain that President Xi Jinping will not simply take this on the chin while allowing swathes of Chinese manufacturers to collapse.
Risk number three:
"Operational systems in key financial market infrastructure and key institutions are increasingly vulnerable to technology outages and malicious cyber attacks. The threat landscape for operational risk could worsen further in the context of escalating geopolitical tensions."
Tariffs on every country, with some hit with punitive import taxes above 30 per cent, are only going to increase these tensions.
Financial sell-off the biggest immediate risk
The biggest immediate threat comes from the financial market reaction to Trump's tariff announcement.
The Reserve Bank notes that, despite the market sell-off over recent weeks, many share and debt prices still remain high and are not factoring in risks to the economic outlook.
"A sharp repricing of risk, from current low levels, could abruptly increase borrowing costs for corporations and exacerbate refinancing challenges," the RBA warns.
"This could be triggered by geopolitical tensions, such as the imposition or threat of tariffs by the United States and its trading partners, which could impact earnings not only for firms directly affected but also for corporations more broadly from a weakening in economic conditions."
The RBA also makes clear that this is not simply a threat to US companies or the firms in countries hit by particularly high tariff barriers.
The fear generated about the global economic outlook could lead to finance drying up globally.
"This could sharply increase financing costs, including in Australia, and restrict Australian firms' and financial institutions' access to funding and liquidity in global markets," the FSR warns.
"It could also create liquidity strains for Australian banks and NBFIs [non-bank financial institutions], such as superannuation funds.
"Such an event would intensify financial pressures on domestic borrowers and, if severe enough to strain financial institutions' balance sheets, could limit credit availability in the Australian economy."
As these financial shocks potentially ripple through the "real" economy — of production, consumption and investment — the RBA warns Australia is unlikely to be immune.
"A global economic downturn, particularly one that leads to a sharp slowdown in China [Australia's most significant trading partner], could negatively affect Australia through trade channels — including commodity prices and investment — and spill over into weaker spending by Australian consumers and businesses," the bank notes.
Australia better placed than many: RBA
However, the Reserve Bank is not at panic stations, at least not yet.
It notes that Australia is generally well-placed to weather any global financial and economic storm.
"The strong financial positions of most households, businesses and owners of CRE (commercial real estate) are likely to limit the risk of widespread financial stress," the bank forecasts.
"There is considerable scope for most borrowers and lenders to draw down on buffers in the event of a liquidity shock, and any depreciation of the exchange rate would similarly play a shock-absorbing role for the wider economy."
But, for a significant segment of the community, these buffers have already been eroded.
The RBA notes that business insolvencies are much higher than levels recorded throughout the 2010s, led by hospitality and construction, although the vast bulk of these are small firms.
The central bank also notes that many home loan borrowers remain in negative cash flow — that is, they spend more on essentials and mortgage repayments than they earn — although this number has recently started declining, even before the interest rate cut in February took effect.
The proportion of Australian households with home loans spending more on essentials and mortgage repayments than they earn. (Supplied: RBA)
"Around 3 per cent of borrowers are currently estimated to be experiencing a 'cash flow shortfall', putting them at risk of falling behind on their loan repayments," the bank observes.
"Although this percentage is higher than before the pandemic, it is notably lower than the peak observed prior to the stage 3 tax cuts and a further moderation in inflation over the second half of 2024.
"The share of borrowers at greater risk of falling behind on their loan — those estimated to have both a cash flow shortfall and low buffers — has decreased to around 1 per cent of all variable-rate owner-occupier borrowers.
"Additionally, the share of loans in formal hardship arrangements has stabilised, although it remains a little higher than pre-pandemic levels."
The bad news in the FSR for Australian mortgage borrowers is that they are paying some of the highest average interest rates in the world.
Australia and New Zealand have the highest average mortgage rates out of a group of comparible countries selected by the RBA. (Supplied: RBA)
That's due to the prevalence of variable mortgages, meaning most Australians are well off cheap pandemic-era fixed rates, while borrowers in many other countries have longer-term fixed mortgages.
The Reserve Bank governor Michele Bullock also again warned at her press conference on Tuesday that, because Australian rates didn't rise as much as most other countries to counter inflation, they also couldn't be expected to fall as much now that inflation looks mostly under control.
It is no surprise then that it now takes seven years longer for people to pay off their mortgage than it did a couple of decades ago — 19 years instead of 12 back in 2002.