Chapter 1: What is the impact of the RBA's interest rate rise on Australian households?
Now, I understand this is a really difficult time for households who are already facing higher fuel prices and other cost of living pressures, but we must get on top of inflation now so that it doesn't get away from us.
The Reserve Bank has raised interest rates again. The cash rate is now 4.35% after the third rate hike in a row.
Developments in the Middle East remain highly uncertain, but under a wide range of possible scenarios, the conflict adds to global and domestic inflation.
For Australians already stretched by the cost of living, it means another hit to mortgage repayments, rents and household budgets. And while the decision was widely expected, the reason behind it is more complicated. Some economists are calling it the Hormuz hike, a response to global oil prices, the war in Iran and fears inflation could skyrocket.
Australians are poorer because of this shock. We are poorer and there is no way out of that.
I'm Daniel James, and you're listening to 7am. Today, economist and co-CEO of the Australia Institute, Dr Richard Dennis, on why the Reserve Bank is making Australians pay more to contain inflation and the risk that it goes too far. It's Wednesday, May 6th. Richard, thanks for joining us again.
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Chapter 2: What are the reasons behind the latest interest rate hike by the RBA?
This is a brutal decision for Australians already struggling in a cost of living crisis and straining under the weight of the last two interest rate hikes. What was the RBA's reasoning for this decision?
Look, it was a brutal decision. I think it was an unnecessary and incorrect decision. And, you know, one thing I agree with the RBA governor about is that this decision to increase interest rates will have no impact on inflation for the next six months. I'm not verbaling her. That's literally what she said.
These interest rate rises are not going to do anything for inflation in the next six months.
Chapter 3: How does the conflict in the Middle East affect global inflation?
That's done and dusted. We know that those prices are coming through. Obviously, inflation at the moment is being caused by Donald Trump unilaterally starting a war in the Middle East and driving up world energy prices. The RBA are not stupid.
They know that increasing people's mortgage interest rates will do nothing to lower the world price of oil, but they've decided that they better increase interest rates anyway because they don't want what they call inflationary expectations to speed up. So yeah, I agree with the RBA governor.
This won't help for the next six months, but she's actually saying, but if I dish out enough pain now, it might come in handy in six months' time. And it can't hurt, she says, having just heard us.
So why has she done it? What reasoning can you, I guess, backward engineer in terms of why this decision's been made?
Well, firstly, because the Reserve Bank has what it thinks is one job. Its one job is to target inflation of 2.5%. We used to say 2% to 3%, but we had a review into the RBA and they were like, no, no, we should aim for the middle of the range. So they've got this very precise target now for inflation. They want it to be 2.5%. And they've got one lever to pull, really, interest rates.
So, you know, to a man with a hammer, the world is a nail, and to an RBA with one interest rate leaving a pool, that's what they pull. Now, you know, what's interesting is the RBA Act, the Act of Parliament that establishes the RBA, says full employment should be its goal. Like, I'm not making this up. It's hidden on this top secret thing called the internet.
It's written into the founding legislation of the Reserve Bank of Australia, and full employment is in there as one of the goals. But everyone knows, and I've got scare quotes going for knows, that actually while the Act might say full employment, what they know is that 2.5% inflation is the real goal.
After the last interest rate hike, Michelle Bullock spent a lot of time talking about inflation expectations drifting up, and she spoke about it again at her press conference.
We've already seen expectations for inflation over the next year or so increase, and we need to ensure that this does not lead to higher inflation expectations over the longer term.
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Chapter 4: What are the potential risks of the RBA's decision to raise interest rates?
Well, people with mortgages. And Michelle Bullock just said, oh, you know, inflation is really hard on the poor. Well, you know what's really, really hard on the poor? Unemployment. What's really hard on the poor is a recession. And there's no doubt that increasing interest rates in a slowing economy...
You know, we are getting very close to policy-induced recession, and that's the risk that she's comfortable to take.
Richard, in the last year, we've had three rate cuts and now three rate hikes, which is the fastest RBA easing to tightening in 15 years. What do we read into that?
They're not very good at forecasting. And we know they're not very good at forecasting because remember they said under the previous governor, oh, we won't be increasing interest rates for years. So people went out and borrowed a lot of money because the RBA governor forecast that the RBA wouldn't increase interest rates before they increased them a dozen times in a row.
So we know they were bad at forecasting a few years back. We know they were bad at forecasting a year ago. Now, to be clear, I don't have a crystal ball. I don't know exactly what's going to happen to the world economy in 12 months' time, but I also know no one at the RBA does either.
And the fact that things are unknowable doesn't mean that we still don't have to make hard decisions today about what would be better or what would be worse. The problem's not that the RBA doesn't know, because frankly, no one does. The problem is that they're willing to put all of the risk all of the risk on driving up unemployment while real wages fall.
And, you know, they're insulated from the consequences of these enormous choices that they're making.
If we look at the cash rate scene globally, I mean, Australia is the outlier here. Last week, the US Federal Reserve and the Bank of England both held rates. Canada, Japan and the European Union were also going for a more of a wait and see approach. they're feeling the global oil crunch too. So why are we different?
Good question. I don't think there's a good answer, but we are different. We're taking a lot more risk and we're loading up a lot more pain on low and middle income earners than people in other countries are. I think that part of it is that the RBA has got it wrong for so long. The thing they really kind of are worried about now is not being wrong. They're kind of afraid of being out of touch.
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Chapter 5: How does the RBA's inflation target influence its decisions?
I think they're uncertain what's going to happen, but they would rather be kind of doing what all the finance sector's telling them they should do, because at least then if they're wrong, they're wrong in what they think is good company, whereas I think their job's to be right on our behalf.
What's the danger here to Australians and to the economy if the RBA goes too hard?
Recession. The recession we had to have in the early 90s was literally caused by the Reserve Bank jacking up interest rates to fend off its fear of inflation. These are very, very real risks. And again, I'm comfortable with people saying they don't know what's going on. I'll put my hand up and say, I don't know what Trump's going to do. I don't know how long the war's going to go.
But I agree with Michelle Bullock. Increasing interest rates will not lower prices in Australia. When prices are going up because petrol and diesel are going up, increasing interest rates will do nothing to fix that. So for me, as an economist, as a person with a mortgage, and as someone who cares about the country I live in,
I just think that this is a bad decision that loads up a lot of pain and a lot of risk on some people while actually increasing the interest rate that people with a million bucks or two million bucks in super are going to receive.
We recognise that even though the budget is not the primary driver of prices in our economy or these interest rate decisions, we intend to play a helpful role, not a harmful role in the fight against inflation.
So what impact will this decision have on next week's budget? It's a very difficult time for our Treasury, Jim Chalmers. Does this make his job even more difficult?
Yes, it does, particularly because the RBA governor's rhetoric is basically saying that her job would be easier if Jim Chalmers was nasty to people too, right? So she's literally saying, hey, government, if you could kind of increase taxes on poor people and
and don't give any public servants a pay rise, you could add some fiscal policy misery to the monetary policy, the interest rate misery I'm dishing out, and if you would do that, Treasurer, that would make my job as Governor of the RBA easier. All I'm saying is that the extent to which government make up
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