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The Reserve Bank will cut rates again and again, until we lift spending and push up prices
The Reserve Bank cut interest rates on Tuesday because we aren’t spending or pushing up prices at anything like the rate it would like. And things are even worse than it might have realised.
As the board met in Martin Place in Sydney, in Canberra at 11.30 am the Bureau of Statistics released details of retail spending in April, one month beyond the March quarter figures the bank was using to make its decision.
They show the dollars spent in shops fell in April, slipping 0.1%, notwithstanding weakly growing prices and a more strongly growing population.
The March quarter figures the board was looking at were adjusted for prices. They show that the volume of goods and services bought, but not the amount paid for them, fell in seasonally adjusted terms during the March quarter.
Adjusted for population, the volume bought would have fallen further.
We’ll know more on Wednesday
The Bureau of Statistics will release population-adjusted figures as part of the national accounts on Wednesday.
The figures for the September quarter show that income and spending per person barely grew. The figures for the December quarter show income and spending per person fell.
A second fall in the March quarter will mean two in a row – what some people call a per capita recession.
Even unadjusted for population, economic growth is dismal.
During the September and December quarters the economy grew just 0.3% and 0.2% – an annualised rate of just 1%.
We’ve been doing it by ourselves. As Reserve Bank Governor Philip Lowe said in announcing the rates decision on Tuesday:
The main domestic uncertainty continues to be the outlook for household consumption, which is being affected by a protracted period of low income growth and declining housing prices.
The bank wants both inflation and employment higher, and it wants us to spend more in order to do it. Lower rates should help, although not for everybody. This cut will free up an extra A$60 a month for a typical mortgage holder. One more cut will free up a total of $120.
It’s not much, and there’s doubt about whether it would do much, but interest rates are about the only tool the Reserve Bank has.
It is required by its agreement with the government to aim for an inflation rate of between 2% and 3%, “on average, over time”.
Treasurer and Reserve Bank Governor, Statement on the Conduct of Monetary Policy, September 19, 2016. Reserve Bank of Australia
It is also required to aim for full employment.
It says while employment growth has been strong, of late there have been “little further inroads into the spare capacity in the labour market”.
The underemployment rate suggests it is possible for employers to more fully employ more people, if necessary paying higher wages in order to do it – if only employers were confident enough.
The Bank believes hopes lower rates will give them than confidence, in order to “assist with faster progress in reducing unemployment and achieve more assured progress towards the inflation target”.
If that doesn’t happen, it will cut again. Tuesday’s statement as good as said so:
The board will continue to monitor developments in the labour market closely and adjust monetary policy to support sustainable growth in the economy and the achievement of the inflation target over time.
This cut and the next will take it into uncharted waters, where its so-called cash rate – what it pays to banks to deposit money with it overnight – is close to zero.
As far as can be discerned it has never been that low in the 100+ years the Reserve Bank has been in operation, originally as the Commonwealth Bank of Australia.
Reserve Bank cash rate since 1990
Should inflation still not pick up and employment still not fall as far as it believes it could, it will have to effectively cut its cash rate below zero, forcing cash into the hands of banks by aggressively buying government bonds, giving them little choice but to lend it to households and businesses, in a process known as quantitative easing. It has been done in the United States, Europe, the United Kingdom and Japan, and is by now anything but unconventional.
It would prefer the government to pull its weight by cutting tax and spending more, especially on infrastructure. As the governor said in a major speech just after the election, relying on only one policy instrument “has limitations”.
Treasurer Josh Frydenberg gets it. He points out that the yet-to-be-approved tax offsets in the budget will give Australians on up to $126,000 a cash bonus of up to $1,080 when they submit this year’s tax return. He said
the combination of the tax cuts and today’s Reserve Bank decision could see a two-income family, for example a teacher and a tradie, each earning $60,000 a year, with a $400,000 mortgage, almost $3,000 a year better off as a household.
His biggest concern, and the biggest concern of the governor, might be that they don’t spend it. Another concern would be that the banks don’t pass the rate cut on.
Already the ANZ has said it will only cut mortgage rates by 0.18 points instead of the full 0.25, a decision Frydenberg said “let down” customers.
Governor Lowe made his own position clear when announcing the cut. He said bank funding costs had “declined further, with money-market spreads having fully reversed the increases that took place last year”.