- AMP’s chief economist disputes the assertion of former RBA board member Warwick McKibbin that the central bank should raise interest rates.
- He said raising rates to create a buffer against volatility abroad while ignoring economic indicators at home “would be like shooting yourself in the foot so you can practice going to hospital”.
- Oliver also disagreed with the view that the RBA should use nominal GDP growth as a basis for interest rate settings.
There’s been some robust discussion among economists this week about the future direction of interest rates in Australia.
Former RBA board member Warwick McKibbin kicked off the debate on Monday when he said the RBA should hike rates now, arguing it would create more room to move in the event of a global economic downturn.
It’s a point of view which stands in stark contrast to most analysts, given the various headwinds for the inflation outlook.
Market pricing for the next RBA rate hike has now been pushed well into 2019, as a steady stream of economists at major banks have walked back their predictions of a near-term rate hike.
According to AMP chief economist Shane Oliver, raising rates in the current environment would be a “major policy mistake”.
“The bottom line is that the RBA should stick to its inflation target and ignore those arguing for a premature rate hike,” Oliver said.
He cited Australia’s high level of labour market slack and chronically low wage growth — two of the key factors serving to contain the inflation outlook.
And hiking rates now — when core inflation is only just creeping into the bottom end of the RBA’s target range of 2-3% — would only serve to cast doubt on the central bank’s credibility.
To do so would “just reinforce low inflation expectations – causing businesses and households to question whether the RBA really wants to get inflation and wage growth back up to be more consistent with the inflation target,” Oliver said.
Oliver said it’s common for analysts to start agitating for change when inflation growth spends too long outside of the RBA’s target range.
But he said historically, the 2-3% inflation target has “served Australia well”. It strikes a balance between fostering economic growth, while providing a buffer against deflation.
In view of that, Oliver took specific aim at McKibbin’s assertion that the central bank should use nominal GDP as a basis for rate settings.
For one thing, it’s too volatile. Oliver said nominal GDP growth can jump around because it’s dependent on Australia’s terms of trade, which the RBA has no control over.
“It would have meant much tighter monetary policy into 2011 than was the case and even easier monetary policy a few years ago when the terms of trade fell,” Oliver said.
He also disputed the view that Australia should follow the US and raise rates, so that the RBA has room to move in the event of an economic shock.
Although an increasing number of analysts are highlighting that the US-led withdrawal of global liquidity could give rise to increased market volatility, such a move “would be like shooting yourself in the foot so you can practice going to hospital,” Oliver said.
He added that it’s not as if Australia is moving out of lock-step with other developed-market, noting that the central banks of Europe and Japan are in no rush to raise rates.
And on the subject of financial stability, Oliver said the RBA’s historically low settings haven’t given rise to property-bubble risks across Australia — only Sydney and Melbourne.
In addition, the fact prices in those markets are now falling demonstrates the effectiveness of macro-prudential measures to cool off overheating markets.
In fact, if policy makers had utilised more macro-prudential measures earlier on, “then the east coast housing markets would have been brought under control earlier, rates could have come down faster and Australia could now be in a tightening cycle,” Oliver said.
Add it all up, and Oliver’s position is that until there’s a material change in inflation then when it comes to interest rates, no move is the best move — a view the RBA has taken since August 2016.
“Our assessment is that this is just what it will do and that rates will be on hold for a long while yet. In the meantime, the debate about rates will no doubt rage on.”
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