‘Reserve Bank tarnished by rate predictions’, say John Howard and Peter Costello

RBA hurt its credibility by unwisely saying official interest rates were expected to remain near zero until 2024, former leaders say.

The Reserve Bank building in Sydney’s Martin Place. Picture: NCA NewsWire / Jeremy Piper

John Howard and Peter Costello believe the Reserve Bank has significantly damaged its credibility and reputation by unwisely saying that official interest rates were expected to remain near zero until at least 2024.

The former prime minister and treasurer also said in exclusive interviews with The Weekend Australian that former treasurer Josh Frydenberg could have warned governor Philip Lowe his comments were imprudent.

“The Reserve Bank made an error in two areas,” Mr Howard said. “Firstly, the last two reductions in interest rates were unnecessary and they left the bank with little petrol in the tank. I thought they took rates down too low and at least those last two were unnecessary.

“And, secondly, I don’t think the governor should be making predictions about interest rates so far in advance. It was an error. I mean, the fact that the Reserve Bank now has independence does not mean that it also has ­infallibility.”

Mr Costello, who also told The Weekend Australian in December 2021 that it was irresponsible for the governor to make such projections and expected the official cash rate to increase in 2022, said confidence in the Reserve Bank had been badly undermined.

“The central bank’s reputation is absolutely critical to its ability to discharge its functions,” Mr Costello said. “It has got to keep confidence in the money supply and it’s got to keep inflation within a target band, so a lot of its work is done by what we call jawboning – what we want to happen and don’t want to happen.

“You cannot be a successful bank unless you have a decent, credible reputation. The whole idea of giving the Reserve Bank formal independence was to enhance its reputation as an independent institution and this has damaged its credibility.”

Governor Lowe repeatedly said that he expected the official cash rate to remain at or near 0.1 per cent until at least 2024. The Reserve Bank has increased the cash rate eight times since May 2022, and at 3.1 per cent it is the highest in 10 years.

Mr Costello highlighted the Review of the RBA’s Approach to Forward Guidance, which acknowledged “many people interpreted the forward guidance as ‘a promise’ that there would be no rate raises until 2024”, which has led to “considerable reputational damage to the Bank”.

Mr Frydenberg should have advised the governor that he was on a risky and potentially hazardous course, Mr Costello said. He added that the bond buying program during the pandemic, which contributed to the Reserve Bank posting a record loss of almost $37bn, had been an unmitigated failure.

“The treasurer should have warned the governor this was a dangerous course and it was likely to be unsustainable,” Mr Costello said. “And it wasn’t just that they said, ‘We think that the rates will be 0.1 per cent in 2024,’ they then went into the market and bought bonds to try and produce that.

Reserve Bank governor Philip Lowe. Picture: Adam Yip

“(The bonds) are so massively underwater that the bank has now blown up its equity – that’s how successful that has been. If you were a normal commercial bank, and you’ve done what they have done, the bank would be wound up by now. But they say, ‘Oh we are the Reserve Bank, so the same rules don’t apply to us’.”

Mr Howard, also a former treasurer, said he agreed with Mr Costello and the government should have spoken to the governor if it was concerned.

“I hope in the interests of transparency that the treasurer at the time had spoken and should have expressed some concern, but I don’t know whether he did,” Mr Howard said. “There’s nothing about formal independence for the Reserve Bank that suggests the treasurer can’t say, ‘Hey, look, I think you’re wrong on this’ (in) a private discussion.

“And just as treasurers are entitled to say to Reserve Bank governors, ‘I don’t think it would be a good idea to put interest rates up,’ you can equally say, ‘I don’t think it would be a good idea to put them down.’ I mean, just because you’ve got formal complete freedom doesn’t mean that the treasurer has taken a vow of silence and has become a Trappist monk.”

Mr Howard and Mr Costello said the governor’s guidance on interest rates could leave many young people with home loans in significant financial distress, especially if they were on fixed interest rates, and could be paying several thousands of dollars more each month.

“I can understand them being grumpy because the effect was that the governor was saying the rates are not going to go up until 2024,” Mr Howard said. “Well, he knows as well as anybody else that once you, the governor, says that is his expectation, people tend to be guided by it.

“That is a lot of money for young people and the governor says now you shouldn’t have relied on my forward guidance – that’s his defence,” Mr Costello said.

“But the only reason to give forward guidance is to try and induce people to behave in accordance with it. If you did not want people to rely on it, then you should never give forward guidance.”

The interviews with the former prime minister and treasurer this month coincide with the release of cabinet records from 2002 by the National Archives of Australia on January 1, 2023.