Australian Economy in Recovery Phase
Reserve Bank Governor Warns Against Keeping Interest Rates Low
Oct 15, 2009
One year after global financial events required a change in direction for Australia's monetary policy with a rapid decrease in cash rates, the Reserve Bank of Australia (RBA) has determined that the worst of the economic downturn is over. This was evidenced by the October 7 rate rise of 25 basis points, a signal to all Australians that their economy had entered a recovery phase.
Monetary Policy Cannot Be Too Timid
RBA governor, Glenn Stevens, in his October 15 speech, paved the way for the interest rates adjustments needed to meet this new economic climate. "Australia has had an experience that, even if labelled a recession, was a pretty mild one," he said. Stevens then went on to say, "Barring another serious international setback, the economy is likely to continue on a path of gradual expansion during 2010."
In light of these predictions, Stevens warned about keeping interest rates too low for too long. "If we were prepared to cut interest rates rapidly, to a very low level, in response to a threat but were then too timid to lessen that stimulus in a timely way when the threat had passed, we would have a bias in our monetary policy framework. Experience here and elsewhere counsels against this approach," he said.
These were telling words. The US Federal Reserve's decision to keep interest rates very low, even once the dot.com crisis and Sept 11 downturn had eased, left them with very little room to move in terms of monetary policy and according to some just may have fuelled the sub-prime mortgage crisis.
Inflation Rate is Key
Back on the Australian front though, Governor Stevens' speech prepares Australians for a return to pre-emergency interest rate levels and with November looming the question is not whether another rate rise will occur, but whether it will mirror the October hike of 0.25% or the increase will be higher again in the order of 0.5%.
Inflation rate figures, due to be released on October 28, will play a large part in the November decision. Prior to the economic crisis, underlying inflation had crept up above 4.5% in Australia's booming commodity-driven market. According to Stevens, while there were signs that Australians were already moderating spending in response to increasing inflation, only time will tell whether underlying inflation rests within the desired 2-3% range.
The recent increase in interest rates and plans for further hikes clearly indicate an intention to return to normalcy. Stevens said, "None of this is to say that the economy is, at this moment 'too strong'. It isn't. The point is, rather, that the very low interest rate settings were designed for a weaker economy than we are in fact facing. Plainly, the downside risks to which the Board was responding earlier have not materialised."
The Word is Out
For the time being, it seems the perceived threat is over. Now, there is a need to ensure economic recovery is sustainable and over-heating does not occur. From this point on, moderation is in order. Australians have been warned. The days of low interest rates are over. No more having the cake and eating it too.
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