The RBA’s rate hike ‘sprint’ is over. Now what?

RBA governor Philip Lowe is in the spotlight. Picture: Getty Images

It may not be the end of rate hikes, but Tuesday’s widely expected and welcome pause heralds the next phase of the battle to bring inflation under control.

The period between May and March can be best thought of as the “sprint away from zero”.

To its discredit, the Reserve Bank was caught flat-footed by last year’s inflationary outbreak, which was then hugely exacerbated by the unforeseeable Russian invasion of Ukraine.

In its race to catch up, mortgage households have suffered the swiftest policy tightening in decades.

It hasn’t been pleasant, but it’s been necessary.

So far nothing has broken, but the stresses are beginning to emerge.

And despite the sometimes personal criticism of governor Philip Lowe, he and his board have always made it clear that they are doing all they can to avoid the scourge of inflation while limiting the fallout on the prized national achievement post-pandemic: full employment.

It’s been hard, but you could say “so far, so good”.

The sprint away from zero rates was the easy decision, however.

Lowe has time and time again talked about the “long and variable” lags between monetary policy, which can mean 12-18 months between a rate hike and when its impact on the economy is ultimately apparent.

Absent a crystal ball, managing this temporal mismatch is more art than science, and never more so than now.

Whether it’s the hundreds of thousands of fixed rate mortgages ending this year, or the threat of another bank failure and a global credit crunch, or the war in Ukraine – the future is as clouded as ever.

It may be that the seeds of a steep economic downturn may have already been sowed by the 3.5 percentage points in rate hikes already delivered. But probably not.

A cash rate of 3.6 per cent does not scream “recession”.

But as Lowe said in his speech to the National Press Club on Wednesday and in his statement the day before, more rate hikes “may well be needed to ensure that inflation returns to target”.

The bigger risk Lowe is flagging is that things outside the central bank’s control will leave inflation plateauing at a too-high level of, say, 5 per cent.

And Lowe has made it clear that while the blunt tool of higher interest rates hits demand, the RBA board will have to respond to persistent supply-side inflation, whether it be in electricity or housing markets.

“While supply-side factors are influencing how fast inflation declines, they cannot be a reason to tolerate higher inflation on an ongoing basis,” he said.

That would require a further tightening of monetary policy, and the risks to the economy start rising exponentially with each turn of the screw.