Interest rates

It’s time for the Reserve Bank of Australia to stop digging

If, as seems likely, the combined power of central banks in advanced economies pushes the world into recession, the greatest risk is not that they also drag us down, but that our reserve bank raises our own interest rates. .

This is the message to us – and to everyone else – of the repeated warnings from the International Monetary Fund about the unintended consequences of a “synchronized tightening” of major economies – America, Europe and, in their own way, China, all braking at the same time.

Dark economic clouds may not be heading for Australia, but there is a real risk that the Reserve Bank will hurt the economy by raising rates too much. Credit:Eddie Jim

Synchronized macro-policy shifts are a relatively new problem in our more globalized world economy. Until the global financial crisis of 2008, global recessions tended to spread from country to country. Since then, everyone tends to contract – or stimulate – at the same time.

When you were stimulating while your trading partners were not, much of your stimulus would “leak” to their economies, via your higher imports. But, as we learned in the fight against the Great Recession, when everyone stimulates together, your flight to them is offset by their flight to you, thus making your stimulus stronger than intended.

The fund’s warning is that we are now about to learn that the same thing happens in reverse when everyone pulls the brakes – fiscal as well as monetary – together. Timing will make your efforts to limit demand (spending on goods and services) more powerful than expected.

So the message from the fund to us is this: when you’re assessing how high interest rates need to go for inflation to come back down to the target, you have to be wrong by doing too little.

But there are four other factors that indicate the Reserve should be wary of pushing rates higher. The first is Treasurer Jim Chalmers’ confirmation in last week’s budget that his fiscal policy ‘stance’ has also changed from expansionary to restrictive, and therefore now adds to the restriction resulting from monetary policy More Strict.

Chalmers slashed Coalition spending programs to make room for Labor’s new spending plans, while ‘cashing in’ the temporary spike in tax revenue resulting from the war-induced spike in global energy prices , and the success of the Coalition’s efforts to bring us back to full employment.

As a result, the budget deficit fell from a peak of $134 billion (equivalent to 6.5% of gross domestic product) in 2020-21 to $32 billion (1.4%) during the year. until June. The current financial year should see this progress largely maintained, with the deficit increasing only slightly.