Reserve Bank faces pivotal decision on interest rates, with potential pause looming
An independent review of the Reserve Bank could lead to significant changes in its operations.
This week marks a historic occasion for the Reserve Bank of Australia (RBA).
On Tuesday the board will announce whether it has decided to pause interest rate rises at the current official rate of 3.6%.
At the same time, Treasurer Jim Chalmers and many other cabinet ministers will be leafing through the findings of an independent review of the RBA which looks set to comprehensively change and update how one of our most important financial institutions operates.
A crucial decision
Looking at rates first, this will be one of the most pivotal RBA board meetings for a long time because it is near the end of a period of rate rises that some very big mistakes can be made.
Keep raising rates too high and the economy can go into recession with devastating results.
Stop raising rates too early and inflation can get a second wind, requiring catch up interest rate hikes that can send rates higher than they would otherwise go and run the risk of a much longer period of sub-optimal economic growth.
What makes this meeting so interesting is that inflation numbers have peaked and have been coming down, with the latest monthly rate of 6.8% suggesting it may fall for a while yet.
Will falling inflation numbers cause the pause?
Will that fall be enough to bring on a pause – I think it will, but it is a close-run decision, even with the likelihood of a further increase in May.
A pause would give the RBA access to more data on how the economy is performing as the lagged effect of 10 previous rate rises continue to flow through the system and more fixed rate mortgages revert to much higher fixed rates.
There is certainly a lot of pain being caused by current rates given that many borrowers have seen their repayments skyrocket, but the other side of this pain is that inflation that runs too high is bad for almost everyone.
Economists jumping on the pause cause
More economists are jumping on the “pause” bandwagon, even if they believe the hikes will continue in May.
One is Westpac chief economist Bill Evans, who thinks May could herald the final rate increase.
“We now expect a pause in April to be followed by a final increase of 0.25% at the May meeting,” Mr Evans said.
On the matter of potential reforms of the Reserve Bank, there are many significant potential changes, some of which would bring us more into line with international central banks.
Will a committee of experts decide rates?
Some of the most discussed reforms include using a committee of economic experts to set official interest rates rather than the current board which includes a range of business leaders, fewer meetings to discuss rate settings and regular press conferences by the RBA governor to explain current monetary policy settings and how they are expected to work.
The report is likely to canvas a number of options for change, including some that would not involve much legislative change given the possibility that getting change through both houses of parliament could be difficult.
It is interesting that the RBA has recently modernised its website to make it much more approachable and understandable, which may mirror the sort of changes that may be required to make it a more transparent and open organisation.
Dr Lowe could be the first casualty
Current Governor Dr Philip Lowe could be an early casualty of the changes, given that his current seven-year term finishes in September.
Dr Lowe has become quite a controversial figure after long maintaining – with caveats – that official interest rates would stay at 0.1% until 2024.
That was seen as something of an interest rate ambush by some when the RBA started raising official rates in May of last year in the face of rising inflation and they have continued raising them ever since.
Farewell to monthly rate meetings?
Having meetings to discuss interest rate changes also look likely to become less frequent with the current schedule of a decision every month except for January likely to change to every six or eight weeks instead.
The RBA review has been remarkably thorough and was led by a three-member panel – international monetary policy expert Carolyn Wilkins who sits on the Bank of England’s financial policy committee, the Australian National University’s Crawford School interim director Renee Fry-McKibbin and the secretary for public sector reform Gordon de Brouwer.
Considering many see the operations of the RBA as fairly dry, the review was swamped with more than 110 submissions and it conducted extensive surveys and more than 230 interviews, including the RBA board and its senior executives.