Economics Analysis

Reserve Bank not to blame for rising interest rates

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(Cartoon by Mark David / @MDavidCartoons)

While Australians express frustration over rising interest rates and inflation, various crises affecting the globe deserve the blame, writes Jemma Nott.

THE RESERVE BANK of Australia hit mortgage holders with another interest rate increase of 3.3 per cent and more are predicted over the next few financial quarters. The broader mainstream economic analysts contextualise the rate rises with doom-and-gloom reporting but there are some clear elements that all are missing.

In fact, what might be the most important aspect of the challenges Australia has faced with growing stagflation could be a result of an almost parochial affliction among the country’s punditry. What everyone seems to be missing is that inflation over the past year and a half has been a result of global crises — meaning that the Reserve Bank of Australia is responding to a supply-side issue by trying to curb demand.

The first indicator that we would face inflation challenges began with the Russia-Ukraine war and the reality that Russia is a major global supplier of necessary commodities like oil and gas but also both Russia and Ukraine serve as breadbasket economies (in other words, are major global suppliers of grain like wheat).

Even though countries like Australia have their own base for agricultural production, supply shortages felt in certain countries (for example many global south countries that relied heavily on Ukraine for grain and sunflower oils) mean that it pushes up global demand overall and leads to a natural flow of inflation in that market. Let alone the fact that poorer countries like Libya did not have significant grain reserves to rely on in global crises like these.

We then faced challenges during China’s ongoing lockdowns as its manufacturing slowed under the pressure of a disrupted workforce and in addition to this, electricity issues caused by climate change events. Supply chain issues felt through early COVID in China have persisted globally and in particular, those commodities that require slow-moving inputs like agriculture have only as of last year begun passing on some of that extra pain to consumers.

Beyond the war and disruptions that have occurred as a result of that, manufacturers and farmers have all also been feeling the energy crunch in Europe and have slowed production as a result.

So while mainstream economists point to price index rises and may use this as an argument for the necessity of slowing the market cash flow and arresting inflation, most recent ABS statistics show that the pain in the economy is being felt largely in electricity, travel and the housing market. The first two require energy inputs – a supply-side issue felt around the world – and the latter a complex policy issue that tackling via a simple interest rate rise could eventually lead to a housing market crash through mortgage defaults.

So, in effect, it’s a measure to tackle demand in an economy that doesn’t innately have a demand problem but a supply problem combined with inflation in necessary or non-discretionary commodities — non-discretionary commodities being commodities that by their very nature will always be in demand.

And while the average renter sitting on a potential mortgage deposit might rejoice at the potential for arresting the insane debt bubble the Australian economy has rested upon with low interest rates for decades, they might want to consider that in a housing crash, rents typically go up and not down as those defaulting on their mortgages are forced back into the rental market. This phenomenon played out in the 2008 Financial Crisis in the U.S. and rents rose. So, rejoicing for some tenants may mean worsened immiseration for others.

What raising interest rates in the here and now while operating in a policy vacuum will do is simply create an environment for stagflation to persist (because the supply-side problems in the economy won’t go away) while triggering business collapse, higher unemployment and potential recession. As the U.S. Federal Reserve undergoes similar rate rises (our central bank is essentially falling in line with theirs), the World Bank has already predicted global recession as a follow-through.

In other words, the central banks are leading us down the garden path of a timeless story — the poor are paying for war and global instability that they didn’t create.

In many ways, we could be staring down the barrel of the OPEC oil crisis of the '70s repeating whereby we faced significant stagflation largely centred around the energy market followed by raised interest rates, shortly followed by a recession but the background cause of inflation never quite going away. So, then under Paul Volcker, the U.S. Fed would see that same cycle repeat a number of times – inflation, raised interest rates, recession, more inflation and so on – all the while, aggregate purchasing power diminished in either context and workers suffered.

As we learned to a lesser degree in 2008, what’s needed to pull us out of this is macroeconomic thinking and serious targeted public spending. Much discussion during the pandemic centred around the possibility for us to struggle “to just print money” without causing inflation but reality played out much differently.

In the case of quantitative easing during the pandemic in the form of buying what are called repurchase agreements from the banks (which is what people actually mean when they talk about “printing money”), much of that money was simply increasing the transfer of bonds between the fed and banks. In other words, the flow of money begins at the Fed and generally stops at a debt your private bank holds but doesn’t end up in your bank account. To meaningfully increase the money supply, the central banks would need to be directing money directly into your bank account.

However, unlike COVID, our policymakers know that a scheme like JobKeeper probably wouldn’t cut it for keeping the crumbling industry afloat. Infrastructure spending and spending on creating new industry by comparison will help keep jobs in the economy and at least offset unaffordable necessary commodities like housing and electricity.

On top of this, if we want to meaningfully arrest prices, that can be done directly and can be done by regulating energy suppliers and housing investors now. However, for the neoclassical economists, that would mean acknowledging that historical fiscal policy has been a catastrophic failure.

Jemma Nott is a Political Economy post-graduate student at the University of Sydney and a freelance writer.

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