Lowe’s interest rate punt: Hero or zero

Reserve Bank governor Philip Lowe is sticking with his softly-softly approach – if he succeeds he will be a hero.

Philip Lowe’s softly, softly approach has consequences. Picture: Brendon Thorne/Bloomberg via Getty Images

Reserve Bank governor Philip Lowe is sticking with his softly-softly approach – he calls it a “narrow path to a soft landing” – to hopefully wind inflation down without sending unemployment shooting up.

If he succeeds he will be a hero: getting inflation sustainably down to the 2-3 per cent target range, without the crippling double-digit jobless rates of the early 1990s or even near double-digit jobless rates.

If he doesn’t, he will go down as the governor who blew near 30 years of RBA low-inflation success, earned and delivered on the back of that early 1990s pain.

He would also then fully deserve to be - in the words of our trainee treasurer with delusions of profundity – ‘renovated’. Let’s bury one – to use a grand old Aussie word – furphy upfront. That’s he delivered really punishing rate hikes.

Lowe’s taken the RBA’s policy rate up 3.25 percentage points in nine months.

The mother – some would unkindly add another word – of central banks, the Fed, has gone up 4.5 percentage points; true over a slightly longer 11 months.

Our neighbour, the RBNZ, has gone up 4 percentage points - again true, over a longer time frame because it, sensibly, got started moving away from the lunacy of near-zero sooner – and with yet another hike all-but certain in two weeks.

So even in nominal terms and despite the inane mantra of ‘nine rate rises in a row’, it’s been softly-softly and slowly-slowly.

In real terms, Lowe has barely increased at all.

Last May when he made his first increase, to just 0.35 per cent, annual inflation was 5.1 per cent. The real interest rate was still a highly stimulatory minus 4.75 per cent.

Now inflation is 7.8 per cent; the 3.35 per cent nominal rate gives a real interest rate of minus 4.45 per cent. It’s barely changed.

Sure, it’s having a big and painful impact on home loan repayments.

But heck, all that means is that borrowers who had two years or so of essentially ‘free money’, now have to pay for it.

And hold your tears for the vast majority of borrowers.

Almost all of them – apart only from first home buyers over the last two years – were either sitting on massive unrealised and tax-free capital gains, or had previously cashed in massive and tax-free capital gains.

On the other side – seemingly invisible to our trainee treasurer, the media and the so-called economists – are the savers who are finally getting some sort of return on their bank deposits.

Even so, still only a negative return in real after-inflation terms.

Yes, 3 per cent is better than zero, but it’s not that great when inflation is eating away at the capital at a near-8 per cent rate a year.

All this goes to Lowe’s attempt – his ‘narrow path -- to engineer a soft landing; taking now another two years to get inflation down only near the top of the mandatory 2-3 per cent RBA’s inflation target.

Bluntly, to me, it is just not acceptable for the RBA to predict inflation only down to “around 3 percent” in mid-2025, fully two years away.

Further, Lowe is playing an extraordinarily dangerous game; ‘hoping’ that unions won’t chase, and win, higher wages into this sustained higher inflation, over-full employment, reality.

Right now, average wages growth is running around 4 per cent. If it breaks higher, inflation will blow up in everyone’s faces and most especially Lowe’s.

That is a future that would force him – or his successor – to deliver exactly the punishing further rate hikes; risking, all-but certainly delivering, exactly the surge in unemployment that he’s desperately trying to avoid.

It would also start to deliver some real pain to home loan borrowers; and, needless to say, property prices.