RBA’s Lowe challenges early rate hikes

Reserve Bank of Australia governor Philip Lowe challenged market expectations for interest rate hikes before 2024, and pushed back against suggestions hikes and tougher lending standards could be used to quell house prices, saying changes to tax, social security and planning regulations worked best.

Dr Lowe also said small- and medium-sized businesses were facing extremely difficult conditions during the current lengthy lockdowns and the longer they had to wait before reopening, the greater the damage would be.

“Many are in ‘wait, survive and see’ mode, having experienced a large drop in revenue,” the RBA governor said in a speech to the Anika Foundation in Sydney on Tuesday. “For some businesses, there is a limit to how long they can wait. So, the sooner we can open safely, the better.”

While the central bank remains confident of a strong economic recovery in 2022 after vaccination targets are met and restrictions ease, the latest delta lockdowns will cause an economic contraction of 2 per cent “and possibly significantly larger” in the September quarter, and living with the virus will present a fresh layer of uncertainty for the recovery.

“This is quite different from our earlier experience, when the number of cases was close to zero, and there was a very quick bounce-back,” Dr Lowe said, noting however that the RBA expected the economy to return to its “pre-Delta track” in the second half of next year.

He said the delayed recovery meant wages growth would take longer to hit the 3 per cent mark the central bank believes is needed to drive inflation sustainably within its 2 per cent to 3 per cent target band.

“Our judgement is it will take some time for wage increases to lift to a rate that is consistent with achieving the inflation target … this judgement stands in contrast to the expected path of the cash rate implied by market pricing.”

The market is currently pricing in an interest rate of 25 basis points (0.25 per cent) by the end of 2022, 60 basis points (0.6 per cent) by the end of 2023, and 100 basis points (1 per cent) by the end of 2024.

“These expectations are difficult to reconcile with the picture I just outlined, and I find it difficult to understand why rate rises are being priced in next year or early 2023,” Dr Lowe said.

“While policy rates might be increased in other countries over this timeframe, our wage and inflation experience is quite different.”

Dr Lowe’s comments were cheered by equity investors.

The S&P/ASX 200 had been trading 0.4 per cent lower before the speech, but rallied to be trading flat through the afternoon. The Aussie dollar was hit, however, dropping 0.2 per cent to US73.51c.

Interest rate markets also ratcheted down implied rates by between three and five basis points immediately following the speech.

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