Rates were at neutral, now they are moving towards loose

The Australian Institute for Progress says that today’s cut to 3.85% for the cash rate is not necessarily a positive sign for the economy.

According to Executive Director Graham Young historically a cash rate of between 4% and 5% has been regarded as neutral so Australia’s rates are veering towards loose indicating that the Reserve Bank sees more risk on the downside than the upside for the economy.

“It’s not so much a vote of confidence in government policy, but a warning that there is a potential for a downturn.

“The uber low rates between 2010 and 2020 were an historical aberration, and there is no way the bank should go back there.

“Those rates were responsible for a blowout in the cost of housing, and they also drastically undervalued cash as an asset, bringing misery on many older Australians who depended on fixed interest for their income.

“As corporates and governments base their investment hurdles on the risk-free cost of capital, it also meant that many projects with insufficient returns were funded, leading to inflationary pressure, asset booms, and aiding and abetting our fall in productivity.”

Mr Young said that the federal government’s policies had actively worked to increase inflation, and those inflationary pressures have not abated.

“If we have a victory over inflation it is nothing to do with Jim Chalmers, and everything to do with Michelle Bullock.

“High relative interest rates have done the trick, not government restraint, with the last election campaign being a competition between the government and the opposition as to how much inflationary pressure they could inject into the economy in an effort to buy votes.”

Mr Young said it will be painful for homeowners for rates to stay high, but that is unavoidable and a product of poor financial policy both of previous governments, starting with the Rudd Government in 2008 and continuing with the Albanese government, and previous RBA governors Glenn Stevens and Philip Lowe.

“The solution to home affordability is more supply and competition in the housing market, not lower interest rates.

“Unfortunately no government, state or federal, has a comprehensive set of policies that will create that supply.”

For more information contact Graham Young on 0411 104 801 or graham.young@aip.asn.au.

The graph at the top was generated using the RBA cash rate and demonstrates the course of interest rates since Whitlam lost in 1975 after which uncontrolled inflation caused rates to skyrocket until they returned to more or less normal at the beginning of the 21st century.