Australia’s bubble is built on China’s, and with no major stimulus in the offing, it may suffer a financial crisis in 2013
Mining has been a boom-bust industry throughout its history. The reason is the long development process of a mining asset. When demand pushes up prices for minerals, supplies take time to respond. Hence, prices can go very high in the initial phase of a demand boom. The eye-popping profitability draws all kinds of people into speculating for new mines, massively increasing the supply capacity years down the road. When the demand boom cools and prices decline, supply capacity keeps rising rapidly, which throws the industry into a depression with severe repercussions for its financiers.
Any foreign capital-inspired asset bubble bursts when the flow reverses. It causes the monetary system to contract. As the central bank replaces the outflow with new money, the currency value drops, which frightens Asian retail investors who hold Australian dollar deposits. Their flight causes the currency to tank more and liquidity to tighten. The property market will fall with the tightening liquidity and capital flight, which frightens away more foreign capital in the property market. The new equilibrium is defined by a much lower currency value and property price. In this new equilibrium, the currency value could be half of its peak value.
The trigger will likely be a series of mining projects failing to obtain financing in the international capital market. Their investors will have to walk away from their investments. The reduced capital inflow makes the current account deficit more difficult to finance. Of course, a lower iron ore price increases the deficit too. The combination will cause the currency to establish a declining trend. The trend will send other financial capital to flee.
Judging the timing of a bubble bursting is always an art. My gut feeling is that it happens in 2013. The global economy is sinking. This big picture makes the financing market jittery. When China’s stimulus fails to materialize in six months, many mining investors would walk.