After a speech by Assistant RBA Governor Michele Bullock yesterday, there is speculation about the RBA pushing APRA to instruct banks to further restrain their lending to housing investors- strengthening the so-called macro-prudential regulation that has had only limited success in cooling the property market to date (See this morning’s Australian). I now have the uneasy feeling that the RBA is making it up as it goes along, that it has lost control of macroeconomic management.
The RBA forced the cash rate to a record low to help the economy adjust to the end of the mining investment boom (see chart below). Its easy money policy certainly contributed to a dwelling investment boom, and it has also helped inflate a property price bubble in Sydney and Melbourne, a bubble which has been obvious for some time (see Sydney & Melbourne property prices defy rational explanation), but which the RBA only now appears to realise is a threat to macroeconomic stability.
The RBA should have realised the full implications of then Governor Glenn Stevens’ observation about “crazy” Sydney house prices in June 2015, almost two years ago. Now we have even more heavily indebted households, at substantial financial risk from interest rate increases, and we risk a large housing price correction and an adverse shock to consumer confidence and spending when interest rates start rising.
Australian interest rates will come under pressure to rise as the US Federal Reserve increases the Federal Funds Rate further and faster than previously expected. Morgans Chief Economist Michael Knox has an excellent analysis of the Fed’s likely interest rate hikes over 2017 in his latest note Plain speaking from Janet Yellen:
“…to stabilize the US economy at full employment (and we are now at full employment) the Fed needs to move the Fed Funds rate to 1.74%. Right now the effective Fed Funds rate is 66 basis points. The startling conclusion is that to reach the neutral Fed Funds rate, the US now needs four rate hikes. This suggests a rate hike in March, a rate hike in June, a rate hike in September and maybe a rate hike in December.
Janet Yellen is telling us that the period of pretend rate hikes is now behind us. The Fed is beginning to tighten on a regular fashion. By the end of this cycle, the Fed Funds rate should reach 3%.”
The US Federal Reserve Board is currently undertaking its two-day March meeting, over Tuesday 14 and Wednesday 15 March, so news of the March rate hike is not far away. The RBA’s macroeconomic management task will soon become even more challenging.