Seven questions for the RBA

The note printing scandal will likely dominate tomorrow's meetings between politicians and Reserve Bank chief Glenn Stevens. There are far more important issues to debate.

Tomorrow, the Reserve Bank will weigh up the corruption scandal versus the end of the mining boom.

The erupting scandal that surrounds who in the RBA knew what about two of its corporate subsidiaries, Securency and Note Printing Australia, is likely to dominate the appearance of RBA Governor Glenn Stevens at the House of Representatives Standing Committee on Economics tomorrow in Canberra.

While delving into the matters surrounding this affair is important, it will divert attention away from pertinent questions associated with the RBA’s assessment of the economy and its monetary policy proclivities.

That assessment of the economy, which has seen the RBA leave official interest rates steady at the last two meetings and openly state that the Australian dollar is not out of whack with fundamentals, could benefit from some detailed probing.

The world economy is slipping and sliding down a slippery slope of debt, policy impotence and depressed levels of confidence. This morning, the US Federal Reserve released the minutes of its meeting three weeks ago and said, very directly, that "additional monetary accommodation would likely be warranted fairly soon unless incoming information pointed to a substantial and sustainable strengthening in the pace of the economic recovery.” And this from a position where the US rate is already near zero and trillions of dollars of quantitative easing has already been delivered.

Yet the RBA has only just in the last few months moved interest rates below the so-called neutral level. At the same time, the Australian dollar is bubbling along, blissfully allowed to appreciate despite a long check list of factors that lead many wise people to suggest it is 10 to 20 per cent over valued.

A forward looking central bank, as opposed to a slower moving reactionary one, would already have interest rates lower than at present. The RBA needs to expand its views on monetary policy settings.

The Australian dollar is imposing a contraction effect on the economy. Earlier this month, the RBA acknowledged that the Australian dollar "has remained high, despite the observed decline in the terms of trade and weaker global outlook.” In other words, the Australian dollar is over-valued. Yet last week, Assistant Governor Guy Debelle said the Australian dollar "isn’t out of whack” with fundamentals.

Which is it?

If the Australian dollar is overvalued, the Standard Committee on Economics should be asking the RBA why it is has not yet canvassed, let alone acted to try and push the currency lower. Stevens could be asked what, if any, are the current impediments to direct intervention (i.e., selling Australian dollar on the open market). Perhaps more directly, he could be asked about the effect of cutting interest rates to take one leg of support for the Australian dollar away, a point all the more realistic given the current low inflation environment.

The committee may also want to ask Stevens about the patchy forecasting record of the RBA, particularly with respect to inflation. In August last year, for example, the RBA was forecasting underlying inflation to remain at 3 per cent through the course of 2012. Since the end of 2011, underlying inflation has been at 2.2 per cent or less. What was the cause of this error and did it mean monetary policy has been wrongly calibrated?

Linked to that point is the obvious cooling of the mining boom. While still only just unfolding, there is no doubt the pipeline of mining investment projects is a little less full than even a few months ago and the outlook for further mining investment pull-backs, like the BHP Olympic Dams announcement yesterday, is clear. Should the RBA pre-emptively be easing monetary policy to cushion the inevitable dampening influence on the economy from a less rosy outlook for the mining sector?

The other line of questioning could focus on the unemployment rate which has been remarkably steady at, or a little over, 5 per cent for almost 2 years. Wages growth (measured by the labour price index) has been around 3.75 per cent for a couple of years which appears to dovetail perfectly to the current low inflation rate. Australia can probably sustain an unemployment rate below 5 per cent given this background. Does the RBA agree with this assessment and what is the desirable or lowest sustainable rate of unemployment rate given the current structure of the Australian economy?

Furthermore, the forward indicators on the unemployment rate – job advertisements and vacancies – are consistent with the unemployment rate exceeding 5.5 per cent within the next six months. Does the RBA need to see these sorts of trends emerging before it takes official interest rates lower or will it act preventively in the next meeting?

On to the global economy. The news remains problematic with the recession entrenched in Europe, the US unable to sustain decent growth and now China (and Asia more generally) slowing. It would be interesting to see which data points or other indicators the RBA is using to present its relatively favourable assessment of the global economy. I can’t see any.

And finally, onto more personal matters.

The governor’s seven year term expires in September next year. While there is no doubt that he would be reappointed if he wishes to retain the role, does he in fact want to put his hand up for another term? If so, would he like a full seven year reappointment or do what his predecessor, Ian Macfarlane did, and have a three-year appointment to allow those high on the succession list to gain a little more experience?

Is he happy with the recent appointments to the board? In the past year or so, there have been four new appointments to the board, including Deputy Governor Philip Lowe. Are they providing suitable insight into the operations and policy discussions?

So many important questions that hopefully the Committee will ask.


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