Australia: hung parliament unlikely to hang onto AAA rating?

On Saturday, Australia joined the long list of countries currently undergoing major political uncertainty.

Source: Bloomberg

The Australian election results proved inconclusive with neither of the major parties gaining an outright majority and 13 seats hanging in the balance before the rest of the votes begin to be counted on Tuesday. A hung parliament is probably the most likely scenario at this stage, and from the current evidence it seems perfectly feasible for either major party to form a minority government, which again is not what the prediction markets were calling. The Aussie market is unlikely to welcome this news and the Aussie dollar has already lost 0.6% in early Monday trade. The market will be hoping that we don’t have to go through more than two weeks of waiting to find out which party will ultimately take power as we did in 2010.

Apart from the pre-Brexit spike, the Aussie dollar has spent most of June trading in a range of US$0.7350-US$0.7500. Political uncertainty could push the Aussie down to the lower end of the trading band, but Australia did survive a minority government recently and the wheels didn’t fall off the economy. The big rally in industrial metals over the past week and the comparatively high yield on offer in Australia after Brexit lowered the global interest rate outlook should continue to provide some support to the Aussie dollar despite political concerns.

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The bigger concern from the election is more Australia’s longer term economic health. The potential for a minority government in the House alongside an unwieldy Senate will make it hard for any government to carry out serious structural reforms. There is a chance that the ratings agencies change Australia’s credit rating off the election alone as the ability and desire for the government to carry out any much needed budget reform will be minimal in such a situation. Also the ability for the government to carry out any major reforms to superannuation, negative gearing or the corporate tax rate have now been severely diminished. And this uncertainty could impact consumer and business confidence.

Market expectations for an August rate cut are likely to continue to firm with the potential for another rate cut this year growing higher as well. The TD-MI monthly inflation gauge for June is released at 11 today, and will provide a decent estimate of 2Q CPI for Australia and its fairly likely that 2Q CPI alone would have provided a decent case for an August rate cut anyway.

Most Asian markets were looking to open higher from futures on Friday, including the ASX. The ASX may well open lower given the elections over the weekend, but could well still end up closing higher if the rest of Asia does given that the short-term impact of the Australian elections will be rather minimal.

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