RBA’s Stevens surprises markets with inaction
When Glenn Stevens, Reserve Bank of Australia Governor, presented his policies on Tuesday, he was faced with an impossible conundrum: to hike interest rates or to cut them? Both options would have both positive and negatives consequences on different sectors of the country’s disparate economy. So what did Stevens do? He surprised the markets and chose neither.
The Australian economy is faced with an interesting two-pronged reality at present. On the one hand, the economy grew just 2.5% in the last quarter of 2014 from the year before, the slowest growth rate of the year. The country now faces the highest unemployment rate in over 12 years, and the average salary has dropped down from $73,000 to $62,000 in the last two years. Many anticipated that as a result Stevens would announce plan to introduce further stimulus and cut borrowing costs.
On the other hand though, Australia’s housing market is surging out of control. The resource-rich western regions of the country have benefited from the Chinese appetite for coal and iron ore, leading to high salaries and home prices, while rich Chinese buyers who see the appeal of foreign homes have contributed to the escalating prices in big cities. Land prices jumped over 500% faster than inflation in Sydney and over 1000% faster in Perth between 2001 and 2011, and are still on the rise today. Steven’s decision to do nothing at present reflects the fact that while many individuals are struggling to pay the rent, if he takes action to help them and revive the economy, he could risk fuelling the exploding property bubble.
As a result, even if he does plan on stimulus in the long-run, he prefers to first wait and see if the economy can naturally adjust itself to other fundamental factors. His speech came soon after the strong US employment figures last week, which bode well for the US dollar and caused the price of commodities to fall, including oil, gold and iron ore. Although iron ore is Australia’s biggest export, the drop in price could put pressure on the Australian dollar and help to make all of the country’s exports more competitive.
Stevens’ unexpected inaction may also serve as a subtle warning to the Prime Minister, Tony Abbott. The Governor knows that the Central Bank cannot and should not work in isolation from the government. Abbott too must take responsibility and must deliver reform in order for rate changes to be effective. In the 17 months since his election, Abbott has focused on cutting the national budget at the expense of diversifying Australia’s economy and distributing its wealth. That should be his top priority right now.
He needs to invest in the right education and infrastructures to ensure his country’s global competitiveness and future growth. He needs to encourage the existing tourism and trade sectors to expand and thrive. He needs to create well-paying jobs in science, technology, and manufacturing.
While Glenn Stevens’ decision to leave interest rates at a record low of 2.25% may have startled the market, we can be sure that it wasn’t an indolent decision. He likely still stands by his known stance that Australian tourism and exports will benefit from a lower valued currency, and may very well cut interest rates in the next few months.
His refusal to act should therefore be seen as part of a carefully calculated long-term plan. Stevens is conscious of the two-tiered economy and knows that his policies will work best with Abbott on board and with the right timing of other economic factors. He’s not ready to change the status quo just yet.