Only when the tide goes out do you discover who’s been swimming naked.
Warren Buffett

In the US housing bubble, banks and financiers gave a mortgage to anyone with a discernable pulse.  NINJAs (No Income, No Job, no Assets) were welcomed – as long as they could sign their name, the intermediaries didn’t care.  They were writing mortgages to flip immediately – to on-sell into bundled securities – they were unconcerned about risk, either to the mortgagor or the mortgagee.

Extending mortgages so freely drove the US housing market into a bubble that burst alongside the market crash in October 2007.

The widespread fraud involved is now being revealed as the courts approve a tidal wave of foreclosure notices against homeowners. Many US banks shredded the legal documents that show the chain of loan ownership. This suggests the fraud was the banks’ or reveals they were accessories to fraud.  Why else would they jeopardise their legal claims, which rely on the document chain?

NINJA loans drove the US market hard.  Average home prices went up to seven times average earnings.  Housing loans this big are simply beyond the capacity of borrowers to repay.  As Michael Hudson says, “debts that cant be paid, wont be paid”.

Meanwhile, the Great Australian Housing Bubble continued to inflate. According to Demographia, Sydney house prices are at nine times earnings and Melbourne’s are at eight.  Housing here is most severely unaffordable.

If it took profound and systemic lender fraud to drive the US market to its recent peak, what does this suggest about the Aussie market?

Our valuations are far higher than theirs ever were – so our banks have lent even more freely than the US banks.

House price rises are driven by the size of mortgages that banks give out.

The big four Aussie banks (which together hold over 80 per cent of the mortgage market) must have lent tens of billions each on mortgages with tiny or negative borrower equity.   Whether there was fraud and whether it was by borrower or lender is less material than the fact that our banks are profoundly exposed right across their mortgage portfolios and even a mild downturn could render them insolvent.

Our big four banks are among the thirty largest in the world.  They are ‘systemically important’ and the failure of any would be a national economic catastrophe.

If they default, they must and will be bailed out by the Australian Government, imposing a heartbreaking cost on ordinary Australians.

As long as Australia taxes jobs and business rather than economic rents, our prospects remain dim and bleak.  The Henry Tax Review offers a genuine path to future prosperity.  Let us seize it.

The author holds ANZ shares.