RBA has acted, now it’s over to Stimulus 2.0

The Reserve Bank has done exactly what it needed to do. Now it is over to the federal government.

Two down, one to go.

The Reserve Bank has done exactly what it needed to do; the four big banks — led off, one has to add, very impressively by Commonwealth Bank — have done their part; now it is over to the federal government, necessarily with a little bit of help from the states, to deliver the $100bn-plus package to knit it all together.

The RBA had to establish the foundation on which the banks could build the funding structure, so to speak, of that “bridge”, which Scott Morrison keeps referencing, to carry us all over at least the next six months of both peak virus and peak local and global economic meltdown.

Obviously, hopefully, peak, in both cases. Although, both RBA foundation and bank funding structure can be easily extended and expanded if needed. The RBA’s foundational commitment is open-ended: whatever it takes.

There are three interlocking components to the RBA’s package.

The core is setting 0.25 per cent — effectively zero but not exactly zero — as the central reference interest rate across the financial system, committing to keep it there for the foreseeable future.

A simple official rate cut would on its own have been pointless. Indeed, it would even have been a net negative — delivering virtually nothing to borrowers and significantly further hurting both saver finances and confidence.

But it was absolutely crucial in fixing the official yield curve as a flat line, from cash to the three years that the RBA has, again, very sensibly, settled on as they key term for controlling secondary yields and for — both rate and term — bank funding. All at that 0.25 per cent.

So the second component is the, again unlimited, commitment to buy bonds to keep the three-year yield from rising above 0.25 per cent. The RBA bristles at this being called QE, quantitative easing; and the reason it bristles is that it is dead right.

Unlike the European Central Bank and the Fed, the RBA is not setting out to buy a set sum of bonds, each week, each month, whatever — the classic and real exercise of central bank money-printing, aimed at injecting specific sums of new money into the financial system.

Running a budget deficit

It will quite simply buy as many — or as few — as it takes to keep the yield from rising above that 0.25 per cent. It will be buying in the context of the federal government running a budget deficit that could quite easily aggregate $150bn over the 2019-20 and 2020-21 years.

There’s another reason why it is not QE. The RBA spoke only of buying bonds to hold the yield at 0.25 per cent, in the unlikely event that the yield fell below 0.25 per cent. It could very well be selling bonds into the market. Indeed, it could certainly do that, net, on the odd day or intraday.

This links seamlessly to the third component: the — initial — $90bn three-year funding facility at that 0.25 per cent rate. The federal government tips in a further $15bn for smaller ADIs.

This facility underwrites about 3 per cent of system funding, but is very cleverly open-ended on a limited basis. The more money the banks lend to SMEs, the more money they can access under the facility up to a five-to-one multiple.

The three-component package does two big things. It stabilises and underwrites the entire financial system; and it does so around that 0.25 per cent rate out to three years, and so beyond not only the virus but the recovery from the virus.

But it is also self-cancelling — albeit extendable if necessary: that’s a world away from the inept (wealth-favouring, no accountability), embarrassingly crude QE programs of the northern hemisphere, which were still in place 10 years after the GFC, and running into the new crisis.

The RBA package set the foundation for the banks to do exactly what they have now done. What they have been able to do is almost fiscal magic — the spectacular combination of huge cuts to SME and fixed rate housing loan rates and that rate-level defying increase in a selected term deposit rate.

Yes, apart from ANZ there is no cut in the variable loan rate, but a further, trivial cut in that is the last thing anyone needs — the economy, business trying to survive, obviously workers and even home loan borrowers.

The dynamics of the package also enabled the banks to do their loan deferrals. They were intended to be mostly for SMEs facing existential disaster like they’ve never seen before. But it can and will be extended to stressed home buyers as well.

But they will only be deferrals. The banks are not being asked to go down the dangerous path of forgiving loan principal or even interest. That would not simply have subtracted from the maximum effect of the RBA package but even compromised it.

Sound and functioning

It is not the job of the RBA to embark on bailing out companies and individuals; it was not its job to ask the banks to do so as a quid pro quo for the package. It is its job to keep the financial system sound and functioning well.

It’s done that. It has also provided the banks with the means for sustaining their customers — and themselves — through a unique and uniquely difficult situation. A situation that is far more complicated and worse than the GFC.

But all this won’t stop businesses crashing and workers losing their jobs. Dealing with that is over to the federal government and its $100bn-plus Stimulus 2.0.

This will have to have some or all of the following: direct subsidies of some or all of some wages; direct (non-repayable) payments to business, including tax give-backs; direct rental payments and energy subsidies.

Obviously, for a limited period — say three to six months; and with creative conditions. For example: rent. The government tips in 25 per cent, on the basis that the landlord cuts by, say, 33-50 per cent.

Over to you Scott and Josh.