All Arms of Public Policy Are Working Together – RBA

The Reserve Bank of Australia (RBA) has made the decision to hold the cash rate at 0.25% as the “national bridge-building task” continues.

The news followed RBA Governor Phillip Lowe’s April 21 speech where he affirmed that the cash rate would not be increased until “sustainable progress” is made towards goals for full employment and inflation.

Now that monetary policy has reach its lowest bound – at least for the time being – the central bank is instead focusing on how it and the government can best support policy that will ensure the ongoing availability of credit.

Currently, the RBA predicts the unemployment rate to rise to 10% by June. It also predicts a 10% drop in national output by midyear as well as a 20% decrease in total hours worked.

Despite the predicted rise in unemployment, the RBA says that this would have been much worse if not for introduced government subsidies such as Job Keeper; with policies such as this contributing to the RBA’s bridge building analogy.

“As Australians digest this economic news, I would ask that we keep in mind that this period will pass, and that a bridge has been built to get us to the other side. With the help of that bridge, we will recover, and the economy will grow strongly again,” said Mr Lowe in his speech.

“That bridge has been partly built with the help of Australia’s strong balance sheets – in particular, the strong balance sheets of our governments, our private banks and of the Reserve Bank.”

What is the RBA doing to support recovery?

Over the past months, the RBA has made a range of policy calls to support recovery and the ongoing availability of credit. This included the March 18 rate cut as well as the bank’s newfound bond buying program.

Current policy response:

Cash rate reduction

On March 18 the cash rate was reduced in 0.25% during an emergency meeting as the severity of the crisis began to unfold. It is not forecast to lift until progress is made towards full employment and inflation.

Bond buying program

The RBA has begun to buy government bonds via the secondary market, with an aim to achieve a 3-year yield target of 25 basis points.

In terms of progress, on April 21 the bank reported that to date it had bought $47 billion of government bonds. As time has gone on, the yield curve has stayed around the 25 basis point target (formally 50 basis points) leading the RBA to scale back on purchases.

“As conditions in the market have improved and the 3-year yield has settled around 25 basis points, we have scaled back our daily bond purchases – over recent days, the purchases have averaged around $750 million. We will scale up these purchases again if needed and we will buy bonds in whatever quantity is required to achieve our goals.”

Term funding facility

The RBA has set up a term funding facility where authorised deposit-taking institutions (such as banks) can access funding from the RBA for three years at 25 basis points. The aim of this scheme is to make sure that the banks have the available equity needed to support customers.

Modification of interest rate corridor system

The RBA has modified its interest rate corridor system so that balances held in its Exchange Settlement Accounts earn 10 basis points, rather than zero. This was to ensure that the interest rate on exchange settlement balances would not be zero (as it would typically be with a cash rate of 0.25%).

When will things be ‘back to normal’?

There is no easy way to guess when things will be ‘back to normal’, though Mr Lowe is confident that whenever that is, Australia will be in a position to bounce back.

“We need to remember that once the virus is satisfactorily contained, all those factors that have made Australia such a successful and prosperous country will still be there,” he said.

Instead of making a flat prediction to when this bounce back might be, Mr Lowe has instead forecast possible scenarios based on varying future restriction levels.

Positive prediction if restrictions decrease seen by midyear

In his first scenario, he forecasts that a bounce back could be seen during the September quarter if restrictions are gradually eased as we approach midyear.

“One plausible scenario is that the various restrictions begin to be progressively lessened as we get closer to the middle of the year, and are mostly removed by late in the year, except perhaps the restrictions on international travel,” he said.

Under this scenario he predicts that the economy would begin to grow strongly next year, with a 6 to 7% increase in GDP (after a 6% drop). He, however, notes that these figures would be reliant on a resolution in uncertainty felt towards the future.

With the gradual easing we have already seen in some states over April, as well as the Prime Minister’s announcement that Australians have earned an “early mark” and that the National Cabinet would be moving up their meeting to discuss the easing of restrictions, this potential scenario is looking promising.

If the crisis gets worse (or goes backwards)

If the Coronavirus situation, however, were to get worse, Mr Lowe predicts that this could have a drastic impact on unemployment.

“if the restrictions stay in place longer, or they have to be reimposed, the recovery will be delayed and interrupted. In that case, the loss of incomes and jobs would be even more pronounced,” he said.

However, no matter what the scenario, Mr Lowe is quick to warn that although Australia will bounce back, it will not be a quick return to “business as usual”.

“…the twin health and economic emergencies that we are experiencing now will cast a shadow over our economy for some time to come,” he said.

From eChoice

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