RBA surprised by Covid-19 economic consequences that drove interest rate hikes

The economic conditions brought about by the Covid-19 pandemic caught Australia’s central bank off guard, it has been revealed.

The Reserve Bank has conceded it was “as surprised as everyone” by how dire economic circumstances became as a result of the Covid-19 pandemic.

The central bank’s deputy governor, Michele Bullock, told senate estimates on Thursday that the bank’s 2020 statement that interest rates were unlikely to go up until 2024 was based on “best guess”.

In the last seven months, the bank has raised interest rates by 2.75 percentage points in a bid to curb rising inflation, in the process adding thousands of dollars to mortgage repayments and causing financial pain.

Ms Bullock said she had “a lot of sympathy” for people caught up in the rising rates but did not agree the bank had been misleading.

RBA deputy governor Michele Bullock said the central bank had been surprised by how bad the financial impact of Covid-19 was. Picture: John Feder/The Australian

“What we were trying to do at the time (2020) was giving our best guess of where we thought inflation was at. And unfortunately we were surprised,” she said.

“Obviously, I have a lot of sympathy for people who undertook particular transactions thinking that that was going to happen.

“But we were caught by surprise. Other countries were caught by surprise by the strength of inflation.

“Under the circumstances, we had no choice but to start raising interest rates.”

Ms Bullock said increasing rates should be viewed as a “measure of success” for policy because predictions at the start of the pandemic were so dire.

“We took out a lot of insurance,” she said, making reference to lowering interest rates to 0.1 per cent.

“We were taking out insurance against some very bad outcomes. And our best estimates of the time, our best forecasts were that inflation was not going to be rising anytime soon.

“As I said, we were caught by surprise, as was everyone.”

The RBA has raised interest rates 2.75 percentage points in just seven months. Picture: NCA NewsWire/Joel Carrett

As for the ongoing high inflation, Ms Bullock said the international conditions, including Russia’s war on Ukraine and the ongoing trade constraints caused by China’s Covid-19 strategy, as well as lockdowns and supply shortages, had an impact.

The bank updated its inflation forecast this quarter, which Ms Bullock said was based on updated treasury modelling.

The budget predicted electricity prices would rise 20 per cent this financial year and another 30 per cent in the year after.

On the review into the bank, Ms Bullock said she welcomed the process and was seeking to co-operate.

The review was announced by the Treasurer in July to investigate the central bank’s monetary policy arrangements, performance, governance and culture.

“We welcome the review. We’re very happy to co-operate as far as possible with it, and we’ve told our staff in particular to please feel free to put submissions to the review,” she said.