Conflict over predictions of RBA rate rises

  • Former board member John Edwards: RBA could increase interest rates 8 times in the next 2 years
  • Support: RBA probably considering a program of rate increases given its forecasts for inflation returning to target and economic growth to accelerate to 3% against a stronger global backdrop
  • Theorising that the long-term cash rate is about 3.5% — lower than 5.2% average of the past two decades — and the RBA wants to start tightening in 2018 and reach its goal within 2 years, that would require four quarter-point increases each year.
  • If the economy operates at the level the RBA predicts, at 3% output growth and 2.5% inflation, it would think if a sustainable or natural policy rate of at least 3.5%
  • If the economy does grow to predicted extent by 2019, RBA will need to raise the interest rate to at least 3.5% by 2019 – these rises thus must be soon as they can only be done in small movements.
  • Risks of rate increases alongside high household debt, as most home loans are on variable interest rates closely tied to the RBA’s cash rate.
  • Edwards noted that interest paid on home loans is much less than it was six years ago: while debt has increased, interest rates have fallen
  • Debt payments are now 7% of disposable income compared with 9.5% in 2011, and 11 % at the peak of the RBA tightening cycle before the 2008 financial crisis.

Alternative view:

  • There are multiple possibilities that would result in a rate hikes delay:
    • household spending weakness
    • long expected firming of non-mining business investment is further delayed
    • Australian dollar strengthens
    • employment growth continues to be weak
  • RBA as already allowed a small tightening of monetary policy as banks have increased the price of investor and interest-only loans.
  • High household debt means rate hikes will have to be small and very gradual
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