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  • P D Jonson

Saturday Sanity Break, 28 September 2019 – Monetary policy confusion

Updated: May 1, 2020

'Rate cut no help' says former Treasurer Peter Costello. He is supported by former RBA board member, Warwick McKibbin who adds that the only way further rate cuts would add would be to 'damage confidence'. As a rule, former people rarely enter the contemporary debate, and the efforts of Costello and McKibbin are well meant attempts to help. Costello adds that this is 'abnormal times' and 'The stockmarket is booming on emergency interest rates'. RBA Chief Dr Philip Lowe presumably is unshaken by this view, and the similar view that fiscal policy should not be suborned

by further infrastructure spending. All these great men agree that productivity increases are the key to fixing the Australian economy, a point made in the column many times, most recently last week.

The effect of loose monetary policy on Asset inflation while goods and services inflation is very low is still unresolved in the minds of great men. But low consumer consumption and low wages growth are consistent with low goods and services inflation. This is the effect of consumers and workers in a highly nervous state. If excess money exists ('loose monetary policy') then excess money with nervous consumers and workers will spill into Asset inflation, as it is doing globally. Great men, please read this paragraph, its not so hard to understand.

This week news from Norway was reported in a short article in the AFR. Norway is suffering asset inflation and its central bank is raising interest rates. This is a response that Borio and Lowe advised while our governor was a student in the USA, but the RBA doggedly ignored such action during our latest share price boom. Now Dr Lowe’s latest cut in cash rates seems to be reigniting house prices but wages growth and consumption spending are falling in real terms, if adjustment is made for things Aussie battlers consume - electricity, gas, most foodstuffs - rather than CPI adjustments.

The image here shows the previous egregious ignoring of an earlier bout of asset inflation and Henry Thornton’s commentary, posted in The Oz in June 2007. Here is a link.

Key points were as follows:

* House prices have soared, share prices have rocketed, resource company shares have glowed in the dark, but consumer prices are subdued. The graph shows the extent of the dislocation between asset inflation and consumer inflation in Australian markets.

* Take a moment to reflect on the magnitudes involved. Each price index is set at a value of 100 in June quarter 1986. By March 2007, consumer prices have slightly more than doubled, implying annual goods and services inflation of 3.8 %. Over the same 21 years, average Australian house prices have risen by 450 %, the share price index has risen by a similar 480 % while shares in BHP Billiton have soared by a massive 1150 %.

And in conclusion.

* The question of course is what should be done about the situation. Easy money has helped fuel a global asset boom, and asset booms always lead to busts. So what can be done to avoid a bust? It is a bit rich to see Alan Greenspan warning of the coming bust in China shares, when it was his policy that helped create that boom and the global asset boom in general.

* Clearly savage deflation is not the answer; just as inhibiting industry suddenly is not a sensible approach to global warming. The best approach may be to hold monetary policy firm while asset prices stabilize and then correct, easing only if the inevitable correction seems likely to turn into a bust. The problem is global, so a co-coordinated response among major central banks will be needed. There should be no complaints if Reserve Bank officials spend a disproportionate amount of time at the front of large aeroplanes.

* In the longer term, in setting the degree of ease or tightness of monetary policy two matters need to be kept firmly in mind. The first is that global conditions must be well to the fore. The second is that asset inflation needs to be given equal weight to goods and services inflation.


Fiona Prior sees directors Ciro Guerra and Cristina Gallegos ‘Birds of Passage’, a film about the formation of Columbian drug cartels. Extraordinary. More here.

Sporting life

Today we have the great pleasure of being able to watch the old dog, Richmond play the new dog GWS in the AFL grand final. In the event it was a glorious victory for the old dog Richmond who handed out a thrashing of the young dog. It was especially good to see GWS 'tough guy' Toby Green put in his place by tougher, harder old dogs. Marlion Pickett's first AFL game was brilliant, close to best on ground but Dusty Martin was a worthy winner.

Richmond are now building a wonderful record and we look forward to Caaaarlton!'s traditional game with the Tiges to start the 2020 season.

On Sunday the Australian (no Falou) Rugby team will meet the Welsh scrappers in a danger game that if lost may condemn the Australian (no Falou) Rugby team to meet the England and possibly the All Blacks far too early in the World cup.

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