How much should Banks give back??

It's good news for home owners, but, how much margin should banks give back in the coming years?

In November 2009, John Rolf wrote an article for the Telegraph stating that it would take a number of years before banks reduce their margins. Last week, however, he changed his tune, suggesting that competition between banks would reduce the margin over the next twelve months.

I wonder how much the Banks should give back?

In November 2007 margin (the gap between the Reserve Bank benchmark rate and the rates offered by banks) was about 1.8 per cent. As of November 2009, it was more than 2.7 per cent.

This was caused by banks raising rates without the RBA moving rates, tacking on extra when the RBA was increasing in then cutting by less when the RBA was lowering.

Given what we now know about that Australian economy, one some level you would think that Australia should be able to function with a significantly lower margin, as the risk levels for banks are inherently lower. Banks in Australia typically face lower risks because of the regulatory system they work within. The regulatory system in Australia requires relatively high equity/deposit requirements and does not have the 'key in the door' option like in the USA.

As such, surely, the big banks should be able to reduce their margins.

But, by the same argument, the higher regulatory burden (in the form of higher deposit requirements) mean that, in order to compete with international banks in terms of profits, they need to get higher returns on each dollar lent/deposited.

Furthermore, while Australia (has) faired relatively well (so far) in the GFC, the whole reason we got into this mess was that banks we re lendign money our to people who coudln't afford it at margins that were unsustainably low for the banks.

maybe the banks should hold on to at least a portion of the margin they have gained over the last few years (at least then I might get some decent dividends on my stock).

Inflation and interest fears

The big news today is about stronger than expected inflation figures for the December quarter leading to shocks in the stock market.

I must say, I'm not particularly worried about the news. And I'm glad I'm not worried, because Australians are likely to see a a lot more inflationary pressure over the next few years.

Just because I like to be different, i'm going to go out on a limb and say that the RBA will not increase the cash rate next week? I don't think the reported increase in CPI is really as significant as everyone seems to think.

Looking at the figure below, while (headline) CPI has indeed increased by 2.1% over the 12 months to the December quarter 2009, this was from a very low base. In December 2008, the inflation actually decreased quarter on quarter.

The actual CPI growth over the year was recorded in the September quarter (1%), and the RBA has already accounted for this growth by increasing the cash rate at both its November and December meetings (it raised it at it October meeting but September quarter data would not have been available at that time).

In truth, I'm surprised to see the December quarter CPI as low as it is. In fact, what we see here is a reduction in price growth over the December quarter (albeit December quarter on quarter growth has historically been significantly lower than other quarters). Quarter on quarter growth for September quarter was double that for the December quarter.

And, irrespective of the quarter on quarter increase, the data only reflects an annual increase in CPI of 2.1%, well within the bounds of the RBA's target zone of 2% to 3% per annum.

No problems... yet

Public transport efficiency in a standard work week environment

There has been a running discussion between Cameron Murray and myself in the comments section of one of his blog entries and I decided the issue deserved a blog entry unto itself.

As a throw away comment, I mentioned that there may be some efficiencies in public transport provision stemming from the standard work week. I may have started something here I cannot finish but I'll try anyway.

Increasing the use of public transport utilisation is efficient in that it reduces the average cost of provision, it reduces expenditure on private motor vehicles and it reduces the environmental externalities resulting from private motor vehicle trips.

The standard workweek increases the convenience of public transport and, as such, increases the number of people utilising public transport services. Ceteris paribus, increasing the number of people using public transport reduces the average* cost of provision per user.

Furthermore, on a general equilibrium level, having strong public transport utilisation provides significant efficiency benefits to society through reduced investment in, and use of, private motor vehicles. For example, if every bus takes two full loads of commuters to work each day, it would reduce the number of motor vehicle trips by over 100. This reduces commuters’ need to purchase a car and reduces the environmental externalities coming from the saved trips.

So, if there are efficiency benefits from improving public transport utilisation, how can we make public transport attractive to commuters? By making it convenient.

Taking a step closer and looking at only the efficiency of public transport provision (as opposed to efficiency of society), there is always going to be a trade of between efficiency and convenience in public transport provision (up until the point where there is sufficient critical mass in a city to efficiently provide constant public transport services – every ten minutes or so, 24-7).

The idea of inefficiency in public transport provision comes from having capital (both human and mechanical) being underutilised or lying idle. Having an even flow of people throughout the day (as opposed to a standard workday with peaks in the morning and afternoon) could mean that the same number of people could be serviced by fewer busses and trains. And this would be seen as an efficient outcome: i.e. if the same number of people could be serviced by public transport with fewer resources dedicated.

However, public transport utilisation, (as opposed to provision) is linked to efficiency in the convenience sense (and the economic sense on a societal level). In order to make busses and trains attractive to commuters, services must be far-reaching and constant, at the times when people need them. If services are not convenient – both in timing and route – the number of people utilising public transport will be low.

Moving away from the peak-period public transport would considerably reduce the convenience and thus utilisation on public transport. By moving away from peak periods to an even-flow of commuters throughout the day, the average time a commuter has to wait for a bus or train would increase (because the services would not be as regular as they are in current peak times) and the average distance that commuters have to travel to get on public transport would increase (because services to outlying areas would become unviable).

As such, the number of people using public transport would decrease over time because it would be inconvenient to use it. This would reduce the efficiency of the public transport system and society as a whole.

I guess if we break it down to first principles, in both an even-flow** and a peaky workday model, there would only be two efficient public transport provisions:

(1) zero investment with zero commuters (which would be inefficient for society as a whole); or

(2) a city with 24 hour critical mass to run constant services 24-7 – of which there are few examples in the world, perhaps Manhattan and Tokyo could be efficient.

As such, if efficiency in public transportation is the goal, irrespective of whether we are an even-flow or peaky workday economy, we should have no public transport.

If instead, efficiency in the economy as a whole is the goal, then the model that would meet the needs of a greater number of commuters would be the most efficient.

To me, that would clearly be the peaky workday model.

*marginal costs in infrastructure investment often provide poor a measurement of effeiceincy due to the peakyness of investment. e.g. the MC of adding one person to a full buss is the entire cost of a new bus, the MC of adding a second person is (near to ) nothing. As such, while a little rough, average cost is a useful tool when measuring efficiency.

**every time I type even-flow I’m reminded of Pearl Jam... “thoughts arrive like butterfli-ies... oh, he don’t kno-ow so he chases them awayayay".

(I'd also like to note the irony of two cyclists arguing about PT).