Swan shooting blanks in a rates battle he can't win

THE average punter would have had every right to be perplexed by the end of last week.

THE average punter would have had every right to be perplexed by the end of last week.

The week started with the overwhelming majority of economists predicting a cut in the official cash rate by the Reserve Bank -- which has traditionally resulted in cuts to people's home loan interest rates as well -- but ended with the cash rate remaining steady and the major banks putting their rates up anyway.

This was unexpected. Most economists were predicting a 25-basis-point cut, and some were even claiming a 50-basis-point cut could be on the cards. For anyone who enjoys a punt, the odds for rates remaining steady were up at $3.50. Now further increases in bank lending rates are being predicted, even if the RBA decides to cut official rates next time.

Last week's events drew sharp attention to political and economic problems on the horizon. The government, which engaged in bank-bashing to score cheap political points, is now being asked by voters, "What are you going to do about it?" The answer isn't easy.

Economically, Australia appears to be moving into a new phase in which the rules of the past three decades -- which saw the RBA independently set monetary policy and the banks adjust their rates accordingly -- are being replaced by the banks ignoring the RBA's lead.

We saw early signs of this shift last year, when rate cuts by the banks did not match the cuts by the Reserve, but until now there was not such a clear divergence.

One of Australia's great economic strengths, now a GFC mark II is looming, is our relatively high cash rate set by the RBA. Nations such as the US have little room to lower cash rates to stimulate business and consumer activity if the economy falters, but Australia does. This strength is every bit as important to the economy as our low debt and low unemployment. However, it only works if the banks follow the lead when the RBA acts. If the banks ignore the Reserve because of, for example, the difficulties of acquiring money on the international markets, then Australians are simply saddled with higher mortgages than people overseas.

Politically this is as difficult for Labor as it is disempowering. Wayne Swan, when bashing the banks, implies he has a plan to do something about the situation. But of course he doesn't. Increased regulation would challenge an already challenged free market economy. And pleas for a quid pro quo by the banks following on from the government guarantee on savings during the last GFC have fallen on deaf ears. This is hardly surprising, as the guarantee was never about securing the banks as a gesture of goodwill, it was about doing so for the benefit of the economy.

No wonder this week's Newspoll surveying voter attitudes towards the major party leaders and their Treasury spokesmen on economic management favoured the Coalition. Tony Abbott leads Julia Gillard, and Joe Hockey has moved right up alongside Swan. Given that the Labor side has a track record of incumbency and the other a track record of confusion and costings errors, this is significant. The poll was conducted Friday through to Sunday.

Despite the opposition finishing the week confused about how and when it would return the budget to surplus, the government seemingly took a hit in the perception stakes because it had a loud bark but no bite when it came to convincing the banks not to move rates. It shows that sometimes rational discussion about corporate challenges can be more effective than populism.

The government has gone to war with the banks, but they raise rates in defiance of the RBA anyway. This is awkward for Labor. The punters will demand action, which should be avoided as a matter of good free market policy, but without which Labor will suffer politically.

Despite rates now being quite a bit lower than they were in the final term of the Howard government, Swan has got himself into a bind. He has bought into a debate he cannot influence, making the same mistake John Howard did in 2004 when the then prime minister claimed he would keep interest rates low.