Could the RBA hike rates eight times in the next two years?

John Edwards, a former Director of the RBA, explains why he thinks the RBA could hike interest rates eight times in the next two years

Introduction: Could the RBA hike rates eight times in the next two years?

Ross Greenwood: I want to take you to interest rates, and what a lot of people fail to recognize sometimes is that interest rates right now are at all-time record lows in Australia. Now, there are some economists who forecast interest rates will fall from here. Most economists believe that they will rise. You got that in your head, rising interest rates.

So as a result of that, when you say, for example, get a former Reserve Bank board member, who was on the Reserve Bank board even as late as the middle of last year, one of the most respected chief economists in this country – the former chief economist of HSBC, plus also, the former principal advisor to Paul Keating when he was the treasurer and prime minister of this country, saying that he believes over the course of next year, 2018, and 2019, we could see eight, repeat eight interest rate rises of a quarter of a percent if things get back to normal. Why should you be surprised? Well, people are. Let’s get that man on the line right now. That is John Edwards. Many thanks for your time John.

Interview: John Edwards, Non resident Fellow at the Lowy Institute

John Edwards, Thanks, Ross. Pleasure.

Ross Greenwood: You’ve written this piece for the Lowy Institute. You’re a Nonresident Fellow at the Lowy Institute. But what it seems to me, I mean, you’ve been an economist for many decades. It seems what you’re telling people is if things get back to normal, you’ve also got to expect that interest rates will get back to normal.

RBA hike rates

John Edwards : That’s exactly right. The RBA is saying, “Look, at the end of 2019, two and a half years time, growth will be 3%.” It’s not been there. “Inflation will be 2.5% or between 2 and 3%, which is its target range. We’ll have decent wages growth.” Well, that’s normal. It’s not going to get me any better than that. That’s like potential growth. And those are the circumstance in which you would expect interest rates to go up.

The question is, well, how far do they go up? I don’t think they’re going to go up as far as was normal over the last 20 years. But they will go up. I think the policy rate today is 1.5%, which is really super low. We’ve never been that before. I think the Reserve Bank would probably think at the end of 2019, it would like to see a policy rate somewhere probably around 3.5%. Well, that’s very low, but on the other hand, it’s 2% each point higher than it is today.

Ross Greenwood: And the problem of that is that given that typical mortgage is now from the big banks is around 5.35, 5.5%. If you had a 2% increase in rates, from 1.5 to 3.5%, if mortgages get out to 7% plus, that could cause significant pressure on many people who have gone out and acquired properties recently, for example, who are gone into more debt, because we know that household debt is one of the big pressure points in Australia’s economy right now.

John Edwards : Well, that’s certainly true, and I think that’s one of the reasons that the policy rate is not going to go up more higher than 3.5%, which is still, in the history over the last 20 years, still a very low rate. I don’t think it will go up much higher, and I’ll do it diligently. But it’s true. I think the mortgage rates, board mortgage rates after variable rates will go up to around [37?], I think. If the Reserve Bank forecast the economy is right, it’ll respond in that way with interest rates and the mortgage rate will go up to around [37?], I think.

Ross Greenwood: Okay. Let’s go back to this because it’s not dissimilar to the way the government had its own settings or its own forecast for the economy going forward in the budget.They’re a little bit more conservative if anything. But the fact of the matter is that some of these forecasts, of course, a lot of people are skeptical about the forecasts of Australia’s economy returning to normal, but we can already see the United States, its economy starting to pick up and improve. The interest rates rise is coming from the United States. So it does have a big knock-on impact. If the global economy does start to pick up, inevitably, Australia should also start to move as well.

John Edwards : Well, that’s right. And this is something that the RBA is been pointing out for several months. That the global economy is a lot firmer that it was a couple of years ago. That the US growing 2%. The UK growing 2%. Europe much stronger than it has been. Japan not doing too badly. And China doing much better than a couple years ago. So the global economy is picking up. Global trade is picking up. Global industrial production is picking up. And the RBA has been very pointedly remarking on these things for several months. And I think it points to a view that it regards that as support for the Australian economy as indeed it is.

Ross Greenwood: One of the things also in recent times when interest rates have been raised by some economies, I’m thinking here of Canada and also New Zealand, previously, it had actually pushed their economies into recession. They were forced ultimately to cut interest rates, and that that was as much as trying to keep their currencies under control as anything else. Do you think again there’s any real concern here if we get rapid interest rate rise in Australia? If Australia is not robust, that we could ultimately put pressure on Australia’s economy and raise the risk of recession in this nation.

John Edwards : Oh, absolutely. That’s why I think the Reserve Bank will proceed very cautiously. I don’t think it’ll look to the first rate rise to say March of next year. Then it will proceed probably more rapidly than every quarter and by a quarter of a percentage point. And the merit of doing it that way is that each quarter you can say well, it can be economy cut another 25 basis points.

Ross Greenwood: One, I think, you said – I know like this – the conclusion was the pace of tightening will anyway be governed by the strength of the economy, which is what you’ve just said. If household spending weakness, if the long-term expected firming of non-mining business investment is further delayed, if the Australian dollar strengthens, if employment growth is persistently weak, then the trajectory rate of rate rises will be less steep and the pace less rapid. In other words, there’s plenty of wriggle room there for the Reserve Bank if it needs it. If it needs to extend these rate rises. But what you’re saying is, fundamentally, there’s a view inside the Reserve Bank. There’s a view inside Australia that rate rises are coming if Australia’s economy normalizes.

John Edwards : That’s right. I think that would be consistent with the RBA’s forecast. And, I think, inevitably, if the forecasts are proved to be correct that’s where we’ll proceed.

Ross Greenwood: I’ll tell you what, great to have you in the program as always.The former Reserve Bank board member. Plus the chief economist of HSBC in the past. Nonresident Fellow of the Lowy Institute currently, and the former principal adviser to Paul Keating, when he was both the Prime Minister and Treasurer of this country. John Edwards, we always appreciate your time here on Money news.

John Edwards: Thanks, Ross. Pleasure.

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