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The pace of central bank cash rate hikes since May last year “doesn’t matter” but only the cash rate level achieved does, the Reserve Bank of Australia has explained.
At this second committee sitting with the RBA on Friday (17 February), board representatives governor Philip Lowe, deputy governor Michele Bullock, assistant governor (economic) Dr Luci Ellis, and assistant governor Dr Bradley Jones fronted drilling questions from senators about rising rate impact to Australians — and why.
Speaking to the House of Representatives standing committee on economics in Canberra on Friday, the RBA heads were asked a range of questions by senators regarding the speed and size of the nine consecutive cash rate rises and their impact on mortgagors.
The RBA was asked: "Is there any economic research to support the suggestion that a slower rate of cash hikes would give you greater credibility?"
In response, governor Lowe commented: "I'm not aware that there is. It's really a judgement issue. Given the media and political focus on the change in interest rates, mostly, rather than the level, the assessment we made was that this would keep people focused on a tightening of monetary policy for longer. I'm not sure there is any evidence that the transmission is different depending upon which sequence you follow."
Dr Ellis* added: “In thinking about a path of getting up, say, in round numbers, 300 basis points over a couple of months versus 25 basis point increments—if you put those paths at the beginning of a forecast horizon with any standard macro model you'll get almost no difference. From the perspective of interest rates to observable variables, like output and unemployment and inflation, it doesn't matter.
"The question is: what does that do to expectations? One of the big variables that's important in a standard macro model is inflation expectations. But there's not a lot of good economic theory about how those expectations are formed, and many models have quite arbitrary assumptions there. The argument that has been put in various discussions about whether it's maybe a bit better to go a bit slower—as well as the normal robustness argument the governor mentioned, 'in an uncertain world'—is the question of whether you're influencing expectations differently by having that narrative in the public mind.
"In the end, most people are not paying attention to economic news every minute of the day, so are you influencing their expectations more with a different path? I don't think there is definitive research on this but there is actually a lot of active research on how expectations are formed. There would be a credible argument for something like that being potentially influential on expectations. There are no good models of how expectations are really formed," she said.
Asked to clarify whether she meant that it doesn’t matter if [rates] move more slowly or more quickly, Dr Ellis confirmed: "Not a lot. You know, we’re talking very small beer."
She elaborated: "If you're talking about doing 200 or 300 basis points over three months versus over six months or nine months, then, no, a quarter or two here and there does not matter. The transmission mechanism is not that big in the near term. That's the reality of estimated macro models. The exact path of where you get to doesn't matter that much, as in the speed of that. What matters is the level you get to."
Also of interest to senators was the emotional and financial impact to mortgagors and renters and how these were being factored into the central bank’s decision. They cited governor Lowe’s own comments that he had received such input from members of the public and organisations like the Australian Council of Social Service (ACOSS).
“And that's factored in as best we can to the decision-making process,” Mr Lowe assured them.
“But at the end of the day, our job is to make sure that inflation comes down. At the moment that's our priority. And we think we can do it in a way that keeps people in jobs and keeps the employment right below where it was before the pandemic - but we've got to get inflation down.”
Update on home-owner impact due soon
While RBA was able to explain much of its modelling to the senate committee to answer key questions, it said that one line of inquiry could only be answered in the release of upcoming data, set for release in April.
The RBA board members were asked if they had percentage data on the number of households using their cashflows to pay their mortgages or if they were in negative cashflow.
Mr Jones replied: “We have in effect published a fair amount of information around this back in October in the Financial Stability report. There'll be an update on those estimates in early April.
“But what I can tell you is the picture is extremely uneven, which is a theme the governor was picking up on at the aggregate level.
“It looks like there's a lot of resilience.
“When we drill down across the full distribution of borrowers, we see a very uneven picture,” he explained.
“On one hand, you've got around half our variable rate and occupiers who have more than one year ahead on their mortgage payments. In fact, about a third are more than two years ahead.
“At the other end of the distribution, we … observed around 10 per cent or variable rate and owner-occupied borrowers who have got virtually no spare cash flow after they made their mortgage payments and their living costs. They also have very low buffers.
“A reasonable share of those households are low-income households and hence have a limited ability to cut back on consumption because a lot of their consumption and geographic concentration.
The picture is very uneven across households, he added, stating that “there's no question” there's a segment of the community that are hurting now.
“That's very likely to continue and that certainly features very prominently in our internal discussions,” he confirmed.
*This story was updated on 20 February to reflect that some of the comments were from Dr Luci Ellis, not Michele Bullock, as originally reported.
[Related: RBA not intent on ‘smashing Australia’ into recession: Lowe]
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