The modern equivalent of the debacle in the US economy - which produced a global depression - is the US Fed keeping US monetary policy super-easy, with zero cash interest rates, quantitative easing and promises to continue doing this for the forseeable future.  The Bank of Japan, the Bank of England and the European Central Bank have joined the game.  China is suffering a resurgance of inflation.

So far, and despite continued advice from many sources to keep easing monetary policy, the Reserve Bank has not joined the global rush to provide a highly easy monetary policy. This column has argued that easy money globally combined with responsible firm monetary policy here has kept the Australian dollar high despite lower (but still high) commodity prices. But the high dollar is strangling various industries. The Deputy-Governor of the Reserve, Philip Lowe, perhaps influenced by his boss’s tendency to look on the bright side, has recently pointed out that the high dollar is encouraging (or forcing) companies to increase productivity. No doubt there is some truth in this point, but this is not an outcome available to every enterprise.

Despite Mr Lowe’s attempt to look on the bright side, I fear that, if the Australian dollar remains at current levels, or rises further (as it has been doing lately), the balance of help and hindrance to prosperity will worsen. Cutting interest rates further is not the right answer, just as tightening monetary policy gradually was not the right answer to the asset boom in the roaring twenties USA.

‘Monetary policy cannot serve two masters’ is a rule that cannot be ignored. The US Fed and other leading central banks are attempting to promote global economic recovery when they should be contributing to this task by keeping monetary policy firm and steady to provide a stable environment for households and businesses, rather than promoting boom and (inevitable) bust in asset markets.

The Reserve Bank needs to maintain a firm and stable monetary policy, while the problem of an excessively high currency needs to be handled in another way. My proposal is to introduce a broad-based tax on capital inflow, applied to all inflows of capital so as to reduce the currently excessive and damaging currency to more sensible levels.

But evidence, rather than the feelings of senior RBA officials, or even of this writer, is urgently needed. If Mr Lowe’s view that industry can handle current levels of the exchange rate is correct than the tax may not be needed, or the rate can initially be low.  But if the evidence is that a lower level of the Australian dollar would be helpful to enterprises in industries including manufacturing, tourism and education, indeed is urgently needed, then a moderate tax will be indicated.

Such a tax may prevent, or ameliorate, serious damage to much Australian businesses and derivatively to many Australians.

Do we need such a tax, gentle readers?  Is the high dollar really hurting Australian industry? Let us have you views - contact Henry here.

While things are looking better on the global scene, America is still dealing with excessive growth of government debt, the Eurozone is a rolling crisis that widens the gap between Germany and the rest and China is suffering from large and still rising debt and slowing workforce growth, both trends requiring sizeable structural change.

The ABC's Lateline tackled the China Story and inplications for Australia in a recent interview with Ross 'China' Garnaut, currently visiting Oxford.

Today's Blog also introduces the new head of the Productivity Commission, Peter Harris, until recently a senior mandarin in Canberra. 

Tony Jones started his interview with 'China' determined to get him to say China was on the skids.

Jones: 'Earlier this week the Nomura Investment Bank raised what will be a nightmare scenario for Australia. It warned that China is on the brink of a debt crisis, showing symptoms similar to those that triggered the Global Financial Crisis.

'Is Australia in danger of the kind of financial meltdown we saw in the US and Europe?'

Garnaut: 'No, I don't think that's the right parallel. I think that with the end of the virulent China resources boom that we've had over the last dozen years, there's a very big adjustment coming for Australia, but it's not an adjustment of the kind that we're seeing in Europe and North America'.

Jones: 'We'll come to what that adjustments means. Let's try and concentrate on the allegations, if you like, made by the Nomura Investment Bank and other economists that China's debt is now between 150 and 200 per cent of GDP. Their view is that that spells - would spell terrible trouble for a conventional capitalist economy. I guess no-one's quite sure what that means for a hybrid economy like China's.

Garnaut: 'Well, whether or not debt of that level is a problem depends on underlying rates of economic growth, it depends on the strength of the government budget, it depends on the rate at which the community, the private sector, is saving. So I don't think all of this ends up to - adds up to a coming financial crisis in China. The challenge for Australia is of a different kind'.

After some more argy bargy, Tony Jones quoted another gloomy expert.

Jones: 'What do you think then is driving these doomsayers? Because it's not only the Nomura Investment Bank. Larry Lang, the Professor of Finance at the Chinese University of Hong Kong, he's been making even grimmer assessments. He says that the Chinese debt problem is explosive and the fuse has already been lit and he actually says there's a banking crisis, triggered largely by the masses of debt accumulated by local governments which are now going into default'.

Garnaut (batting like Shane 'Watto' Watson should have done in India): 'Well you'll have to ask them what's driving them, Tony. I'm happy to answer questions about the problems I see in the Chinese adjustment'.

After some further probing like an Indian spin bowler on a dried clay pan pitch, with 'China' asserting the China's problems are 'manageable', Lateline moved on, trying to spin past 'China's' bat with questions about the state of China's (the nation, not the Professor) banking industry and its housing bubble. Henry was getting agitated by Tony Jones's irritating questioning style, not to mention bored at the breadth of 'China's' bat.

Finally, risking a cover drive for two runs, 'China' (the bloke) conceded that China (the nation) had some big adjustments to make.

Jones: 'OK, can I just interrupt you there? I would like to know, if I can, before we run out of time, if there are very big - because of all these things you're spelling out, if there are very big adjustments in prospect for the Australian economy, how big would these adjustments be and how painful for the Australian economy?'

Garnaut: 'Yes. Well we've been through an extraordinary boom, a resources boom the like of which we've never seen in our history, given scale and longevity of the boom. That's been driven especially by high prices for iron ore, thermal coal, metallurgical coal and high investment in those industries and also in LNG. The outlook's not exactly the same for all of these commodities. It's probably most problematic for thermal coal, where the focus on environmental issues is combining with the structural factors that I've mentioned and a slightly diminished rate of growth to undermine what were always unrealistic hopes in Australia of ever-increasing large growth in imports of thermal coal.'

Jones: So what are you predicting then in terms of the impact on the budget for the Australian Government going forward in the next few years?'

Garnaut: 'Well, we can look forward to - the current lower prices for iron ore, thermal coal and coking coal, all of which are much lower than a year or two ago, we can look forward to them going lower in the future. We can look forward to resources investment peaking and then going into decline. And overwhelmingly, the growth in business investment in Australia in recent years has been in the resources sector, so it's going to take quite some effort to gear up the rest of the economy to take up that slack. So, that's going to come out in much lower revenues. We've already seen that lower government revenues, state and federal, over the past couple of years. The pressure is going to intensify. It's going to be very difficult to maintain the level of demand that's necessary to maintain high employment, and to keep high employment going forward, to maintain the good record of the past decade, including through the financial crisis, so we're going to have to be pretty clever. There's going to have to be downward adjustment in Australia's average cost level, probably by a large amount.'

Jones (now licking lips and salivating a bit): 'What about living - sorry to interrupt you there. What about living standards generally? Do you believe Australian living standards are gonna go down rather than up because of this?'

Garnaut: 'Yes, over a few years, I think to maintain full employment and continued economic growth, we're going to have to at the same time try to keep total levels of expenditure strong and improve the competitiveness of Australia. And the competitiveness will improve partly through a fall, probably a big fall when it comes, in the dollar, but that's no use to competitiveness unless we're able to contain costs. Import prices and exportables prices will rise. That will be inflationary. We've got to stop that flowing through to the general price level. This is really hard. The last time we had to deal with this was after the collapse of the '60s and early '70s boom and we bumped along the bottom until Australian policy started to get its act together from '83, but there was a long period of pain before that happened. I hope this time we can get things right without a long period of pain'.

Jones: 'A final quick question: the Labor Government is so worried about its budget position in the budget coming up, it seems set to raid superannuation, at least to overturn some of the Howard Government's tax breaks for wealthier Australians. Is that a good or a bad thing?'

Garnaut: 'Oh, I think that over the past dozen years we've increased incomes of Australians unsustainably in general. There was a lot of middle class welfare, a lot of unaffordable reductions in tax, a lot of pretty sloppy increases in expenditure as well as reductions in tax. All of that's going to be - going to have to be tightened up if we're going to maintain growth and maintain full employment in the very difficult period ahead'.

Jones: 'So we're nearly out of time, but including the superannuation scheme? Do you think that shouldn't be untouchable? Some people would prefer it were untouchable.

Garnaut: 'Well I haven't had a close look at the detail of what's being discussed, Tony, but it shouldn't be untouchable. Some of the concessions to superannuation that were made during the high points of the boom half a dozen years ago were unrealistic'.

There you have it gentle readers, tighten your belts and prepare for a more presbyterian future.

The full transcript is here.

There is little relief on offer from Peter 'Productivity' Harris.

David Crowe and David Uren: 'AUSTRALIA'S new productivity tsar is urging governments to sharpen their focus on economic reform or risk a long-term slump in living standards as he lists infrastructure planning and regulation as two of the biggest challenges facing the nation.

'Productivity Commission chairman Peter Harris warns that the ageing population will make it "harder and harder" to improve national wealth without action from political leaders to make the economy more efficient'.

Read on here.

'Our invisible recession' is the best of the weekend's economic commentary, and comes from Laura Tingle and Jacob Greber for the AFR.

No access unless one is a subscriber, but the message is simple although far from widely understood.

The fall in Australia's terms of trade is reversing the wealth boost given by the earlier dramatic rise.  The problem is exacerbated by the stubborn refusal of the currency to fall, as it did when the terms of trade last fell.

Henry's solution - a tax on capital inflow - has not yet filtered into the marble halls of the AFR.

And, on top of this, the German paymasters have insisted on confiscating a sizeable proportion of people's bank deposits as a condition of providing a bailout.

Greg Sheridan observes, saying the obvious (but then no economist has had the wit to say this): 'If your money is not safe in the bank, your society has ceased to function at several basic levels. The essential compact between a citizen and his institutions is broken. Naturally when word of this government theft of savings got out, every rational depositor wanted to take their money out of Cyprus. To prevent this, Cypriot banks were shut and strict limits put on daily withdrawals from ATMs.
 
'Now the banks are open again but their opening has been accompanied by harsh capital controls. You still cannot withdraw much from your bank - €300 a day - and you cannot under any circumstances take more than €1000 with you if you leave Cyprus. Thus, if before this crisis you had €200,000 in a Cyprus bank, you are vastly worse off than if you had €200,000 in a German bank. This is the antithesis of a common currency. A Cyprus euro was and is, and may well be into the future, worth less than a German euro'.

Henry remains as certain as he ever is about anything that the Eurozone cannot last, and that it should not.  As some clever person said: Southern Europe is suffering austerity fatigue, and Germany is suffering bailout fatigue.

Politics downunder

Henry also cannot understand why a modern social democratic government would think it would appeal to a majority of voters by playing the class-warfare card, not once but consistently.  Paul Kelly reflects.

'Labor's current tragedy is writ large. As Wayne Swan said yesterday, Australia is one of a small group of nations with an AAA credit rating, solid growth, unemployment at 5.4 per cent and low inflation. So what gives with a projected election wipe-out on the scale of Greece or Spain? How did Labor achieve this bizarre double? We missed the recession but our government has the poll rating of a deep-recession nation. Something has gone badly wrong.
 
'The answer is that Labor has lacked a firm governing strategy to unify its decisions, its rhetoric and its electoral tactics. It has been all over the place with confused priorities, poor decision-making and sudden improvisations. The proof is everywhere.
 
'Taking recent weeks, if Labor had a coherent governing strategy it would never have adopted its media package based on the flawed idea of greater state powers over newspapers.
 
'It would never have run the foreign worker 457 visa scare based on short-term electoral gains by sacrificing its economic credentials.
 
'It would never have offered a litany of concessions to the unions, week after week, that merely reinforce a one-dimensional pro-union, anti-business image that is electorally disastrous.
 
'And it would not have sanctioned a three-month feeding frenzy over its plans to impose new superannuation taxes that has unnerved superannuation holders and the industry. Read on here.

Footy

At last the real thing is underway, with the completion of Round One of the 2013 AFL season.

Henry watched his beloved Caaaarlton! take on the Richmond Tigers at the 'G' on Thursday night.  First quarter started 'barely tolerable', with scores all tied up, but only because of Richmond's poor kicking. 

The once mighty Blues seemed in danger of reverting to last year's born to rule approach, modified only by following new super-coach Mick Malthouse's instruction to 'bring it round the boundary'.

For the next two quarters, the Tiges made Caaarlton! look like Muhammad Ali in his last fight, against Larry Holmes, stopped by Ali's trainer in the eleventh round.

Henry assumes that Mighty Mick told Caaaaarlton! at the three-quarter break to go for it boys, play your natural style, and the boys gave Henry something to cheer about, moving the ball fast more or less straight up the guts (of the ground) to peg back a clearly tiring Richmond.

The Tiges hung on to win by four points, producing the greatest roar Henry has heard at the 'G' - leaving his ears ringing for several hours afterwards, and requiring a medicinal brandy before sleep would come creeping in.

Super-coach Mick said after the game that both the team and himself had learned things from the experience.

We sincerely hope so, Mick, as we (and you) get to face the old enemy, the mob that ditched you for a younger man, next week.

Image of the week

LABOR'S DEATH ROW - FULL DOCUMENT

Who does this lady think she is? 

Superannuation belongs to those Australians who have passed up the chance to spend in order to save.  The voters submitted to being forced to save and. when tax incentives were offered, being sensible, the same voters saved even more.

Misses Gillard and Wong are hell-bent on destroying 'their' creature in the name of class warfare, and they wonder why they are so far behind in the polls.

No lesser institution than the Reserve Bank has praised the return to saving by Australian households.

Henry adds his praise to companies that have reduced debt so that, like households that save, they strengthen their balance sheets and create a defence against hard times or attempts to take them over.  Labor, it seems to Henry, are doing their darndest to make a majority of voters dependent on the goodwill of guv'mint, and therefore natural Labor voters.

The RBA said: 'Households’ net wealth has been rising recently due to the recovery in housing and other asset markets as well as continued higher saving and borrowing restraint. Many households still prefer to repay existing debt rather than take on new debt, which has contributed to the slower pace of household credit growth and an increase in mortgage prepayment buffers'.

The RBA, in its latest Financial Stability Report, also expressed concern at the renewed pressure on the Eurozone crisis caused by the meltdown in Cyprus.  It added an important comment on the previously immune Asian nations: 'In countries that have been more resilient to the crisis, such as many in Asia, banking systems remain in a relatively strong position.

'Some of these countries, however, are beginning to confront a different set of challenges associated with property market and credit expansions. It is normal for the effects of low interest rates to be evident in asset prices and credit before they can be seen in economic growth and inflation, and hence a prolonged period of low rates can result in build-up of credit risk long before inflation starts to rise. In some countries, particularly those with limited exchange rate flexibility and strong capital inflows, the authorities have sought to contain these risks through macroprudential measures. (Emphasis added.)

'These policy measures have had to be progressively tightened in a few cases in response to continuing credit and property market exuberance, illustrating some of the challenges involved in calibrating an  targeting these policies'.

Other important judgments included noting that financial conditions have improved significantly over recent months although the bailout of Cyprus this week is a reminder that the recovery in confidence may yet be temporary.

'It is too early to say whether the improved (global) market sentiment over the past six months is the beginning of a sustained recovery, or merely a temporary upswing'.

The RBA has cut interest rates six times since November 2011 in a bid to insulate the economy from ongoing instability in global financial markets, and help offset a slowing demand from Asia for the resource-rich country's raw material exports. It kept the benchmark cash rate at 3 per cent  for the second-straight month in March, the lowest level since the depths of the financial crisis in 2009, but left the door open to further cuts.

The RBA said that Australia's banks were in relatively good shape, pointing to their profitability and the nation's strong bank regulations. Some of the country's biggest banks, including ANZ, have expanded aggressively into Asia in recent years. That hasn't substantially increased their risk profile, the central bank said, although it remained an 'an area to watch'.

Recovery in global financial conditions has helped ease funding pressures on local banks "at the margin," with bank bond spreads falling to their lowest levels since the start of the global financial crisis.

Thank goodness that the RBA is still in there battling for sensible economic policy and reporting the facts with little gilding of the lily.

Read its full report here.

Henry hopes all his readers have a safe and happy Easter.  Do try not to get mugged, and sharpen your resolve to vote against a guv'mint that spends like inebriated sailors and then taxes savings in a pathetic attempt to close the gap.

In Europe, a precedent has been set, and one high official even used the word 'template'.  This means the next time a sovereign debt crisis explodes, runs on the banks will be high on the list of plans of the populace at large.  Italy, a country unable to form a government, Spain, a nation with close to all its youth unemployed or underemployed, Portugal, Malta, even France in economic strife, the list goes on.

The Cyprus deposit-grab greatly raises the chances of catastrophic outcomes from the Eurozone crisis.

The Japan-China quarrel over some potentially resource-rich but otherwise uninspiring islands is another likely geo-political flash point.

Ambrose Evans-Pritchard reports from Hiroshima. 'At ground zero in Hiroshima the inscription for victims of the world's first Atomic bomb is a pledge. We will never again repeat the evil of war'.

He goes on to explain that Japanese original is vague on who "we" is, but the English translation tactfully refers to mankind as a whole.

'Japan's national ideology is pacifist, and this is written into Article 9 of its constitution, which states that "the Japanese people forever renounce war as a sovereign right of the nation and the threat or use of force as means of settling international disputes." 'This peace complex adds a strange twist to events. It inhibits Japan as a muscular China presses its claim on the Diaoyu/Senkaku islands -- a cluster of uninhabited rocks near Taiwan -- and as Chinese warships push deep into Japanese waters.

'Yet there is no doubt that Japan will fight.

"We simply cannot tolerate any challenge now, or in the future. No nation should underestimate the firmness of our resolve," said Shinzo Abe, the hawkish premier bent on national revival'.

After talking to Japanese officials in Tokyo over the past few days, Evans-Pritchard has formed the 'strong impression not only that they are ready to fight, but also that they expect to win, and furthermore that conflict may come at any moment.

"They are sending ships and even aircraft into our territory every day. It is intense provocation. We're making every effort not to be provoked but they are using fire-control radar. This is one step away from conflict and we are very worried," said a top government official.

'Nothing has changed since outgoing US Defence Secretary Leon Panetta said China and Japan were drifting towards war, except for the Japanese defence budget. Spending on warships and aircraft will jump by 23pc this year'.

A Japanese official told Evans-Prtichard: "Does the Communist Party control their own military? Two thousand years ago under the Han Dynasty, the emperor put his right hand on the wheel of his chariot and told his general that everything inside the borders was the domain of the emperor, and everything outside was left to the commander. That has plagued China throughout its history, and it is the delicate issue we now face."

War between China and Japan would involve the USA, whose treaties with Japan requires it to defend Japan if it is attacked.

'One shudders to think what would happen if China and the US itself came to blows in any form. It would be an earthquake for the global strategic and economic order. The Chinese and US economies are locked together in a sort of `Chimerica', a single dollar-based trading system. China owns $2 trillion of US debt. Much of the US manufacturing base is in the Pearl River Delta or the lower Yangtse'.

New US Secretary of State, John Kerry 'waxed eloquent about US-China ties at his confirmation hearing, but hardly mentioned Japan'.  Official comments on the Japan-China conflict so far hve been neutral to cool on Japanese interests.

Evans-Pritchard concludes: 'America is sending the same sorts of signals as England at the onset of the First World War. Nuanced diplomacy -- reflecting a divided Parliament -- allowed the Germans and the French to draw different conclusions in those crucial weeks of July and August 1914.

'What frightens me most is talk from certain quarters in Beijing that the US is a busted flush, bled dry by the financial crisis, crippled by military over-stretch in the Middle East, and that now is the moment to test the paper tiger.
 
'This is a fatal misjudgement of course'.

Read Evans-Pritchard's full report here.

And here is another interesting comment, by Martin Hutchinson  of ASIA TIMES, March 26, 2013.

'Not a decent banker around'.

Quit the Euro common currency, Cyprus, restore the Cypriot Pound at a 50 % depreciation compared to the Euro, raise explicit taxes, cut government spending and tell people life has to change.

Or, plan C, become a Russian satellite.

Australia's left-leaning government seems to be taking us in the same direction purely from internal machinations, as the Image of the Week suggests. 

Henry's comments can be found here, but today's press is absolutely full to the gunnels for anyone who needs to know more.

Housing revives in Sydney while Melbourne wilts.

Alan Mitchell: 'While the Reserve Bank’s board minutes were reminding us that “further [cash rate] reductions may be required”, the bank’s deputy governor, Philip Lowe, was reassuring his Australian Industry Group audience that, after 1.75 percentage points of rate cuts over the past 16 months, lower interest rates were “doing their work broadly as expected”.

'If the monetary transmission mechanism worked as it had in the past, he explained, improved consumer sentiment and higher asset prices should feed through – in time – to higher spending by households. 

'There were, Lowe said, tentative signs this was beginning to happen. There was evidence of slightly firmer retail spending over recent months as well as a slightly firmer tone in the labour market data and “signs of a pick-up in the forward indicators for new dwelling construction across many areas of the country”.

'But, as Westpac economists later noted, when it comes to the housing pick-up, not all regions will be equal. So far the good news on dwelling approvals has been concentrated in NSW and Western Australia. Approvals in Victoria have been on a trend decline for the past six months, and trend approvals for private-sector houses fell 2.8 per cent in January.

'BIS Shrapnel’s Frank Gelber had been hammering the same point at the Sydney forecaster’s client conference a few days earlier'.

And 'Panic house buying hits home in Perth'.

The Scene, 2013

Fiona Prior reveals the latest from The Scene in Sydney.

Check out the Archibald winner here.

Cricket'n'stuff

Overnight, Peter Siddle fought like an old-timer to give Australia a slim chance of emerging from the forth test against India with a shred of dignity.

Earlier in the week, it was great to see the bowlers, especially siddle and Stark, fighting like ... oldtime Aussie bowlers, to stave off defeat against the pestiferous Indians.

A friend sent the following account, no doubt intended to soften Aussies up for the Ashes.

An English lady walked into a Police Station and the desk Sergeant said "Can I help you?"
"Yes" she said, "I'd like to report a case of sexual assault".
"Where did it happen?" the Sergeant asked.
"In the park just down the road" she replied.
"Can you describe what happened?"
"Yes, I was walking along the footpath in the park near the trees when   a man jumped out of the bushes and dragged me in there, removed my underwear then he dropped his pants to his knees and had his way with me".
"Could you give me a description of him?"
"Yes, he was wearing white shoes, long white trousers, a white shirt and he had these two big long pads from his feet up to and over his knees, one on each leg".
"Sounds to me like he was a cricketer, most probably a batsman", said the Sergeant.
"Yes", said the lady, "He was an Australian  Cricketer".
"That's very observant", said the Sergeant, "You worked that out from his accent?"
"No", she replied. "I worked it out because he wasn't in for very long".

Image of the week

  courtesy The Oz

Julia Gillard has won a great victory in Labor's ongoing civil war. In doing so she has lost Simon Crean, one of her most competent ministers, along with several other men of goodwill and proven effectiveness.  But she has demonstrated she is the toughest guy in the caucus, and that gender is of little relevance when the games are for high enough stakes.

The losers in Labor's civil war will have little incentive to roll up their sleeves and campaign for a Gillard victory at the election on 14 September, if the parliament survives to that date. The Greens and 'Independents' must be wondering if their prospects for re-election will be enhanced or weakened by standing beside such a divided rabble to prevent voters from exercising their right to have a government of their own choice.

Next step is the May budget.  Will Treasurer Swan keep spending money like an inebriated sailor or take real steps to stop the growth of debt?  Henry hopes for the latter and fears for the former.

The short answer - economy improving, but not enough to allow exit from super-easy monetary policy.

US Fed Chief, Ben Bernanke said there has been 'substantial labor-market improvement in recent months', but that the Fed wants to ensure those gains aren't temporary before scaling back its buying of Treasury securities and mortgage bonds.

The policy of adjusting the pace would allow markets to anticipate the ultimate end of purchases or the renewed ramping up, should conditions worsen. 'The point of this is to let the market see our behavior', Bernanke said.

In addition, it seems the Fed does not see widespread impact from the Cypriot crisis. 'It's a difficult situation in Cyprus,' Bernanke said. 'We hope the Europeans will come up with an efficient and equitable solution'.

(Contrast this with the robust comments of RBA Deputy-Chief, Philip Lowe.)

The Fed downgraded forecasts for economic growth this year and next but predicted that unemployment would fall faster than expected in December. The economy this year is now thought likely to grow between 2.3 % and 2.8 %.  Cuts to government spending are the main reason, but this impact is far less than the early 'sequester' hysteria suggested.

Officials reiterated their plan to keep short-term interest rates near zero until the jobless rate reaches 6.5 %, so long as inflation remains under control. Thirteen of 19 officials said they expected interest rates to begin rising in 2015.

Federal Reserve Bank President Esther George dissented, as she did in January, because she was concerned that the 'continued high level of monetary accommodation increased the risks of future economic and financial imbalances' and could push long-term inflation expectations higher.

Share prices rose again overnight and so the current show rocks on. 'Pour me another drink, bartender'.

But we have been warned, by Esther George, an unlikely voice crying in the wilderness.

(This was Philip Lowe writing with Claudio Borio in 2002, in a BIS Working Paper (No 114), freely available via the internet.  A 2013 image is above.)

Milton Friedman made a similar point in 1963 when he wrote about: 'the difficulties raised by seeking to make policy serve two masters'. (A Monetary History of the United States 1867 to 1960, p 291.)

Henry has in recent months undertaken some heavy duty economics after nearly thirty years of corporate life. The subject being investigated concerns asset inflation and monetary policy, a subject that Messrs Borio and Lowe were pursuing in 2002. Amongst what is a large but inconclusive literature, the key point made by Friedman, Tinbergan and Borio and Lowe seems to have been totally forgotten.

Failure to consistently recognise that monetary policy cannot serve two masters, or that monetary and prudential policy needs 'Two instruments for two goals' is suprising, even astounding. It is like physicists forgetting the effects of gravity, or stock brokers saying 'this time it's different' when an asset bubble appears.

But now, older and presumably wiser, Philip Lowe is promoting the view that firm monetary policy, helping to produce a high exchange rate, can both restrain inflation and boost Australia's productivity while keeping the overall economy in balance.  His paper is available here.

I do not doubt that hard times can make business owners and their workers work harder and smarter. Friedman (with his co-author Schwartz) wrote somewhere else in their wonderful book about the interaction between monetary policy and other economic variables: 'there are undoubtedly some influences running in the other direction' (ie the reverse to the main direction of influence) and 'the links have much play in them'.

Improved productivity may well be partly due to hard times that result from firm domestic monetary policy relative to the average of other developed country monetary policies, which are currently easy to the point of irresponsibility.  In my view the disjunction of Australian monetary policy and that being pursued in the USA, the UK, the ECB and other leading nations is diabolical, and will end badly for all of us.

One of the diabolical consequences for Australia is the hollowing out of its industrial structure, along with severe damage to tourism, education and other industries harmed by an excessively strong dollar. 

Yes, some participents will survive, and they will do this only be becoming more productive, but many will not.

And I do not think the disjunction is minor.  Australia's best economic historians say Australia's average productivity level is approximately 80 per cent of USA's average productivity level.  That suggests that a more sensible level for the Australian dollar might be around 80 cents in the American dollar.

I am aware that experts will laugh at such a crude comparison, so let us have the debate.  Right now I'd be happy with a value of 90 cents because, regrettably, the adjustments so valued by Mr Lowe have progressed - 'hysterisis' is the relevant technical word I seem to recall.

I am also aware that my proposed solution of a tax on capital inflow will be regarded by some economists as apostasy. Wikepedia defines this as 'renunciation and criticism of, or opposition to, a person's former religion', kindly adding ... 'and without pejorative connotation'.

Economic policy is not religion, and policy makers cannot always predict how the world will look decades in the future.  When the Australian dollar was floated in 1983 - my account of this is here - the RBA's exchange control department was abolished on the same day. None of those involved could predict that in thirty years major countries would indulge in recklessly easy monetary policy, while our central bank would stand firm against this.

So, different times require different responses.  Seeking to defend a damagingly pure policy stance is no substitute for the hard thought and courage required to recognise that the world has changed. We would be wise to change along with it.

Further reading

On Australia's monetary policy, 2013 articles.

Yoursay on monetary policy, 2013 comments.

Dollar driving greater productivity.