The Reserve Bank too slow

The Reserve Bank has been too slow to act on interest rates, and now further cuts are likely to do more harm than good

Astitch in time saves nine – how I wish the Reserve Bank of Australia (RBA) adhered to this proverb. Having insisted on keeping the official cash rate at 1.5% for longer (from August 2016 to May 2019), the RBA now finds itself doing even more stitching.

In October, the RBA announced its third interest rate reduction in five months – 0.25% in June, July and October – taking the official cash rate to another record low of 0.75%.

The June and July, rate reductions have turned around the property market in Sydney and Melbourne, and there’s no doubt the latest cut will encourage more home buyers and property investors.

As the federal treasurer, Josh Frydenberg, declares, “What this means for an Australian family with a mortgage of $400,000 is $720 less a year in interest payments. That’s a significant benefit to an Australian family.”

Equity, bond and property markets will continue to rally as investors switch to the relatively higher yields on offer. But for savers it’s bad, and you know it.

I’ve been arguing for an RBA rate cut in Financial Standard magazine, which is also published by Rainmaker, since June 2018. It was a time when several experts were still predicting one, maybe two, rate hikes ... and the RBA was still insisting that the next move was likely to be up rather than down.

If only the RBA had applied the opposite of what central banks around the world were proclaiming: “We need to raise interest rates now to avoid lifting rates by more in the future” during the good times.

But enough of should haves, would haves and could haves. The road ahead is what matters more.

As RBA Governor Philip Lowe says of the October decision, “The board took the decision to lower interest rates further today to support employment and income growth and to provide greater confidence that inflation will be consistent with the medium-term target … and is prepared to ease monetary policy further, if needed, to support sustainable growth in the economy, full employment and the achievement of the inflation target over time.”

Will that cut (and further rate reductions to zero or negative) be sufficient to restart the Australian economy?

I’m afraid not.

Global and domestic uncertainties – and expectations for even lower interest rates – would only encourage businesses and consumers to defer their spending plans which, in turn, leads to a self-fulfilling prophecy of lower interest rates and slower growth. Why borrow and spend now when borrowing rates will be cheaper in the near future – and in the case of negative interest rates, borrowers might even be paid to borrow?

As Lowe says, “The main domestic uncertainty continues to be the outlook for consumption, with the sustained period of only modest increases in household disposable income continuing to weigh on consumer spending.”

With household consumption accounting for around two-thirds of the Australian economy, Lowe has every right and reason to be worried.

More so because in real terms (that is, adjusted for inflation) wages growth and disposable income have fallen. Real wages growth fell to 0.7% in the June quarter this year from 0.9% in the March quarter; and growth in real disposable income eased to 0.8% from 1.2% over the same period.

Further interest rate reductions will lead to unintended consequences and undesired effects, raising greater concerns over the economic outlook and the likelihood of increased unemployment, where already diminishing household disposable income growth diminishes to zero.

It’s time fiscal policy lends a helping hand by ditching the government’s obsession with getting a budget surplus in print.

To paraphrase the Bible, what good does it profit Australia if it gains a budget surplus but sinks the economy into a recession?

‘ The government needs to ditch its obsession with getting a budget surplus