Chart of the Month - October 2024

The RBA has come under fire because it has not yet begun cutting interest rates like the Euro area, US, UK, Canada, and New Zealand.

“RBA looking sillier by the day.” Stephen Koukoulas, Market Economics.

However, the RBA did not raise rates as much as some other central banks did (see chart below). Even without any cuts so far, Australia’s official interest rate remains below that of the US and the UK.

More importantly, as we talk about below, the RBA is doing a good job of managing inflation while keeping the course for a soft landing for the economy.

Most of the world is cutting rates

As the chart below shows, most central banks have started cutting interest rates.

The US cut the cash rate by 50 bps on 18 September while the Euro Area has already cut interest rates thrice for a total of 125 bps since June 2024.

Australia is an exception but to understand why we need to look at the path of inflation on the way up and on the way down.

When inflation was on the way up

Many central banks raised interest rates sooner or higher than Australia, or both. However, Australia’s reluctance was not a deliberate strategy.

Inflation started earlier in the US compared to Australia and peaked higher (see chart below). In the UK, inflation started more slowly but by late 2021 it has surpassed levels in Australia and went higher for longer. Thus, it makes sense that the Federal Reserve and the Bank of England raised rates earlier and higher than the RBA. Afterall, isn’t the mantra of all three central banks, “data dependency”?

Inflation on the way down

Despite the US and UK having higher inflation than Australia during this cycle, inflation has fallen much faster for the US and the UK than it has for Australia (see the chart above). This has allowed the Federal Reserve and the BOE to start cutting rates before Australia. Once again, the data allowed them to cut while it has not allowed the RBA.

So should the RBA have raised interest rate higher?

Once the RBA saw that inflation was not falling as fast as it was in the US and UK, should they have raised interest rate higher still?

Of course, the RBA did not want to squeeze the Australian economy too much as it sought to make its own soft landing. Further, its economy seemed more squeezed than the US, with slightly worse economic growth and unemployment, in the period since interest rates began to rise (see charts below).

If the RBA had raised rate higher, it could have missed its soft landing and fallen into recession like the UK (see first chart below).

At the moment, the RBA is willing to keep rate where it is (which it deems restrictive enough) and let inflation fall more slowly if that means less upheaval for the Australian economy.

“I will stay out of the politics of it ... My only comment would be that we are doing what we think is best to maintain this path of bringing inflation back down because it's still too high at the moment … we are still on that path where we are managing to do that without a large increase in the unemployment rate.” Michele Bullock, RBA Governor, media conference, 24 September 2024.

Percentage Change in GDP from Previous Quarter

Unemployment Rate by Quarter

Final thoughts

Despite some local commentators criticising the RBA for not cutting rates, the IMF believes the RBA is doing a good job.

“The Reserve Bank of Australia's continued restrictive monetary policy stance aimed at combating persistent inflation is appropriate.” IMF Staff Concluding Statement of the Article IV Mission, 2 October 2024.

So far, the RBA has threaded the needle between its dual mandates of low and stable inflation and full employment as it has reacted to the data that has appeared in front of it. The US and other central banks have done the same.