September 2016
New Banknotes: From Concept to Circulation
A core function of the Reserve Bank is to maintain public confidence in Australia's banknotes as a secure method of payment and store of wealth. To meet this objective, the Reserve Bank has been developing a new banknote series to upgrade the security of Australia's banknotes. The process has involved integrating artistic designs that reflect Australia's cultural identity with a range of complex technical features designed to make the banknotes very difficult to counterfeit. This article outlines the various steps of the process of ‘banknotisation’ for the new banknote series, whereby the design concept is developed into a finished banknote.
Sensitivity of Australian Trade to the Exchange Rate
The exchange rate is an important determinant of Australian exports and imports. Movements in the exchange rate affect the relative prices of traded goods and services, and thus the competitiveness of domestic producers of exports and import-competing goods and services. This article provides estimates of the sensitivity of Australian exports and imports to changes in the exchange rate at the aggregate and component level. Other things equal, a 10 per cent depreciation in the real exchange rate is estimated to increase export volumes by around 3 per cent and decrease import volumes by about 4 per cent after two years, which implies a cumulative net exports contribution to gross domestic product (GDP) of around 1½ percentage points over this period. However, the aggregate responses of exports and imports disguise substantial variation in the responses of the components. Trade in services is generally more responsive to movements in the exchange rate than trade in goods, although it takes longer for the full effect to be seen in services trade volumes.
The Household Cash Flow Channel of Monetary Policy
Changes in interest rates can affect household spending by directly affecting households' interest income and payments and, in turn, the amount of cash that households have available to spend. This is typically referred to as the ‘household cash flow channel of monetary policy’. Household-level data provide evidence that the cash flow channel operates both for households that are net borrowers and for those that are net lenders, though the effect on borrowers is estimated to be much stronger than the effect on lenders. Overall, changes in household cash flow appear to be an important channel through which lower interest rates can stimulate greater household spending.
Chinese Household Income, Consumption and Savings
Household income and spending in China have grown rapidly over the past few decades, and income inequality has also risen. The various measures of China's aggregate household saving rate have all increased since the 1990s, and variation in saving behaviour by income group suggests that increasing the income of poorer households in particular would boost aggregate consumption. Changes in Chinese household consumption patterns as incomes rise have the potential to lead to higher imports of services and food from Australia in the long run. However, uncertainty around the outlook for growth of Chinese household income, consumption and saving is increasing as economic growth moderates in China.
Developments in the Australian Repo Market
The market for repurchase agreements (repos) – where cash is borrowed and lent using securities as collateral – plays an important role in the implementation of monetary policy and as a source of finance for the bond market. The Reserve Bank has commenced publishing more detailed data about the repo market. This article introduces these data and highlights some key developments. The domestic repo market has grown considerably in recent years, with non-residents emerging as prominent borrowers of cash in return for securities. The spread between repo rates and expectations for the cash rate has risen noticeably over the past couple of years. This increase appears to be linked to developments in the foreign exchange swap market as well as arbitrage related to the Australian bond futures market. Demand from non-residents to fund trading activities and, to a lesser extent, regulatory requirements have contributed to the increase in repo rates.
The Kangaroo Bond Market
Australian dollar-denominated bonds issued by non-resident entities in Australia are referred to as Kangaroo bonds and represent a significant share of the Australian bond market. Issuance has generally been dominated by highly rated issuers such as supranational and quasi-sovereign agency entities; more recently there has been an increase in non-financial corporate issuance, albeit from a low base. Kangaroo bond issuance has increased substantially since the early 2000s, supported by the global demand for highly rated and relatively high-yielding Australian dollar-denominated assets. Kangaroo bonds have been attractive to non-resident issuers as they enable non-residents to diversify their funding bases and have relatively favourable issuance costs (including hedging costs) compared with issuance in other currencies. Kangaroo issuers play an important role in the cross-currency swap market because, by converting the Australian dollars they raise into foreign currency, they act as indirect counterparties for Australian corporations looking to convert funds raised offshore into Australian dollars.
Banks' Wealth Management Activities in Australia
Wealth management activity has grown rapidly in Australia over the past 25 years and the major banks now comprise a much larger share of the industry than they did previously. The returns on these activities across the major banks have varied, being close to those on traditional banking activities in some cases but below the cost of capital in others. By undertaking this line of business, banks have increased their resilience (by diversifying their income) but also face new risks. In part reflecting these risks, as well as a greater focus on capital management, banks have begun to re-examine the nature and extent of their involvement in wealth management.
GDP-linked Bonds
A GDP-linked bond is a debt security with repayments that are linked to the issuing country's GDP. These securities have recently attracted some attention, including within the Group of Twenty (G20), in the context of discussions about possible ways to improve the resilience of the international financial system. In view of this, we discuss the potential benefits and challenges associated with issuing GDP-linked bonds and estimate a range of plausible risk premiums using the capital asset pricing model (CAPM). Our analysis suggests that there is significant uncertainty about how these instruments would be priced and, therefore, the borrowing costs that would be faced by governments. Given that borrowing costs play a crucial role in determining what type of debt governments choose to issue, further work could investigate how private market participants are likely to price GDP-linked bonds in practice.
Sources of Financial Risk for Central Counterparties
Central counterparties (CCPs) play an important role in managing the risks present in financial markets and in increasing the overall stability of the financial system. This requires CCPs to be sufficiently financially resilient so that they can withstand extreme but plausible events that would pose significant stress. As use of CCPs becomes more widespread, increasing attention is being paid to how CCPs conduct stress tests to evaluate the adequacy of their financial resources. This article describes the sources of, and the circumstances in which CCPs are exposed to, financial risks and how CCPs typically manage these risks.
The graphs in the Bulletin were generated using Mathematica.
ISSN 0725–0320 (Print)
ISSN 1837-7211 (Online)