Interest rates

RBA admits mistake of raising interest rates in 2024

“In hindsight… a less precise period, or covering a shorter horizon, would have been preferable.

“Given that the outlook was highly uncertain, the board could have paid more attention to potential upside scenarios, including scenarios that might warrant the board raising the cash rate sooner than expected. .”

In seeking to insure against the worst potential of the pandemic, the RBA underestimated – like most observers – how quickly the economy would rebound from the lockdowns.

The bank underestimated the inflationary impact of massive government and central bank stimulus measures that come up against clogged supply chains and the unforeseen war in Ukraine that is driving up energy prices.

But the biggest mistake has been to overestimate its ability to predict the future or to mislead borrowers.

Technically, the bank’s forward guidance was not primarily time-based.

In the central bank’s nuanced language, interest rates would rise when economic conditions – jobs, inflation and wages – warranted it.

The catch is that the bank didn’t believe the economic preconditions for a rate hike from a record cash rate of 0.1% would be reached until at least 2024.

When this writer asked Lowe at the National Press Club in Canberra in February 2021 about a pledge not to raise interest rates for at least three years, Lowe said, “I didn’t promise anything” and 2024 was just a “best guess.”

The qualification was lost in translation as the RBA attempted to squeeze the last straw out of its forward guidance.

If people believed that interest rates would stay lower longer, they would borrow with more confidence and help the economy recover. That’s what happened.

A good thing is that with an almost 50-year low unemployment rate of 3.5%, most people have jobs and can work more hours to pay the mortgage.

Despite the risks, the bank felt during the pandemic that the forward guidance risk was worth taking as it ran out of traditional interest rate ammunition with the cash rate pegged near zero.

The RBA doubled down on its 2024 bet by pledging to buy bonds to peg the three-year yield at 0.1% and lending $188 billion to commercial banks at a fixed rate as cheap as 0.1% during three years.

The other miscommunication was Lowe’s emphasis from November 2020 on the requirement that wage growth be “significantly higher” to drive inflation low to “sustainably” within the target range of 2 to 3%.

Lowe personally took it upon himself to put more emphasis on salaries than some other RBA board members and led RBA watchers to believe he had a salary target of 3% or more. before raising rates.

But as current data shows, with inflation at 7.3% and wages up 2.6% (expected to be raised to over 3% on Wednesday), inflation may rise well above the target for long stretches before wages take off.

Lowe was waging the last pre-pandemic war of low inflation and low growth, just as a new inflationary paradigm had been unleashed.