NATIONAL AFFAIRS: by Colin TeeseNews Weekly
Reserve Bank governor defends his record
, March 12, 2005
Any prudently cautious commentator must feel a concern for this country's economy when the Reserve Bank governor, in the face of evidence to the contrary, insists on holding to current orthodoxy.
Reserve Bank governor, Ian Macfarlane, recently gave evidence about the state of the economy to the Standing Committee on Economics, Finance and Public Administration of the House of Representatives.
If Mr Macfarlane is to be believed, the economy is in very good shape. The housing boom has been dissipated with a soft landing. Excess borrowing for housing has now diminished. Home-owners, it appears, are continuing to borrow as before; but that speculative investment in housing has most definitely contracted. This latter circumstance the governor regards as a healthy and welcome trend. Presumably, he is not concerned about the high levels of household indebtedness.Housing bubble
But is there sound evidence to suggest that the housing bubble has burst harmlessly? There is plenty of anecdotal evidence to suggest that house prices, overall, are continuing to rise. And, if one looks closer, it appears that the rise is being driven mainly by the top end of the market. At the bottom end, there are strong indications that the strength has gone from the market.
So what should we conclude? Mr Macfarlane believes house prices are no longer a problem. Others may conclude that if the bottom end of the market is soft, then low-income first-home-buyers are, for whatever reason, precluded from entering the market. Is that a good thing, even if seen from the lofty heights of the Reserve Bank boardroom?
A number of members of parliament asked Mr Macfarlane about interest rates - in particular, whether or not they should rise. Here he was very coy. And with good reason.
He admitted he could not identify any indicators that would suggest inflation was on the move. (He emphasised that he was excluding oil prices from consideration.) It is worth noting, in passing, that uncomfortable facts about upward movements in the consumer price index (CPI) are always explained away by special or unusual circumstances.
Incidentally, Mr Macfarlane had a word to say about the movement in producer prices - that is, the price of goods going into the manufacturing process. He displayed a table indicating that they went up dramatically between the first and second quarters of 2004.
He seemed to have difficulty in reconciling this with the fact that these changes did not seem to have fed into consumer prices. Perhaps he might have considered the fact that much of consumer demand for manufactures is being satisfied from imports, which remain immune from the impact of producer inputs into the Australian manufacturing sector. And, of course, it follows that the steep rise in the cost of producer input for Australian manufacturers tends to make them less competitive with imports than they already are.Interest rate rise
But coming back to inflation. Surely, on the basis of Reserve Bank optimism, the governor would have been able to assure the parliamentary standing committee that the possibility of an interest rate rise was unlikely.
Instead, he dodged and weaved all over the place and avoided giving a straight answer. The most he would concede was that, if there was to be movement, it could be expected to be up rather than down. Why? He went on to say that all over the world (specifically, the US, Japan and Europe), there was a shift - he welcomed it - away from very low interest rates. Except for Japan and Europe, that is.
In effect, by process of elimination, Mr Macfarlane was telling us that the movement of our interest rates was closely linked with what happened in the US. If rates were going up there, we probably would need to follow them!
Whatever happened to the idea that our monetary policy was intended to reflect domestic inflationary expectations?
Despite all his optimism, Mr Macfarlane did finally concede there will come a time when "we have to accept some moderation in growth in order to prevent the build-up in the sort of imbalances that have got us into trouble in the past."
Is the governor telling us, as subtly as he can, that present economic policies are inherently inflationary, and that, sooner or later they will have to be curtailed? Pity he didn't decide to say so straight out, and let us know what the financial community seems certain of - that is, the imminent possibility of an interest rate rise.
Not surprisingly, the Mr Macfarlane was asked about the current account deficit. And here some of his views seem to take orthodoxy to extremes.
"The current account is ... the difference between investment decisions and savings decisions," he maintained.
Unfortunately, that is only true if, in current circumstances, you insist that expenditure on housing at inflated prices represents "investment". Obviously, our Reserve Bank governor does.
But surely, what we really need is investment in productive
activities, which will allow us, ultimately, to pay back what we have borrowed.
Anyway, whatever the merits or otherwise of that argument, Mr Macfarlane does not think that our current level of indebtedness is a problem. Why not? Because, in an era of floating exchange rates, appropriate corrections will be made by the exchange rate. In effect, the value of the Australian dollar will fall to levels which will no longer attract lenders. Of course, what Mr Macfarlane does not consider is whether that is the most opportune form of correction.
The governor did not get off quite so lightly when it came to the discussion of manufacturing industry. He had quite a bit to say about restraints operating against our capacity to expand output. In particular, he cited the resource industry as one which seemed to be seriously affected. Mr Macfarlane observed, correctly, that, as a result, we were unable to increase our supply of minerals to satisfy rapidly increasing overseas demand. Hence our export income suffered.
He then went on to discuss manufacturing industry. The growth of our manufacturing exports has slowed. This, he asserted, was again owing to supply constraints in place. Manufacturing output was being diverted from exports to domestic consumption.
Opposition Labor spokesman, Lindsay Tanner, contested this assertion. He pointed out that manufacturing output had been growing more slowly than the economy over the past several years. He then asked how it was possible for increasing domestic demand to be blamed for manufacturing's poor export performance. Surely, Mr Tanner insisted, the reason manufactured exports were not performing was that they were unable to compete; and wasn't that, in part, owing to the withdrawal of government assistance programs?
Ian Macfarlane had no answer.
Mr Tanner was right. Manufacturing industry can't compete - and not only because of lack of government support measures. The rising exchange rate is another factor. It has been calculated that every rise of one cent in the exchange rate costs manufacturing exports $A200 million. Thus a 10 cent movement costs $A2 billion. And the Australian dollar has moved much more than that in recent years.
In the broad sweep, Mr Macfarlane, for a variety of reasons, seemed unable to do more than confirm what was already in the public domain. Fair enough perhaps.
The disappointing part of his presentation was, however, the fact that, when it came to detail, the arguments he used to defend the Reserve Bank's position were not always convincing.
- Colin Teese was deputy secretary of the Department of Trade