Interest rates: Reserve Bank is running out of ammunition

Interest rates: Reserve Bank is running out of ammunition, by Brian Toohey in the Australian Financial Review.

We live in a strange world. Now that the Reserve Bank has cut interest rates to 1.75  per cent,  some pundits eagerly assure us there’s plenty of ammunition left for more cuts. It’s not that far before Australian rates reach  near to zero. As Fairfax Media  reported on Friday, a leading analyst Alberto Gallo  predicts  they  will actually hit  zero.  What then?  “Helicopter drops” of cash, as proposed by the respected US funds manager Bill Gross?

In any event, what  is the RBA  aiming its ammunition at? To  some, the highly desirable aim is to drive inflation higher.

The central banks need to create inflation to whittle away the value of the huge debt overhang that is strangling economic activity globally. Japan and much of Europe is already at negative rates, and the US is close to zero.

Now that fiscal  and monetary policy tools have been rendered relatively impotent for stimulating growth, what’s left?  One suggestion is the RBA should “print money” to fund infrastructure. This might help, but would expand the RBA’s balance sheet to contentious levels.

Qualitative easing (lowering interest rates) has not been sufficient to engender inflation, so central banks will resort to quantitative easing — “printing”,  which nowadays is achieved by the central bank purchases of things such as government bonds, out of newly created money, thereby expanding its balance sheet.

Or maybe scrap compulsory saving for retirement, which the finance industry will vehemently oppose because it earns them rivers of fees:

The most potent  alternative would be  for governments  to stop cutting take-home pay by compelling  people to lock income  away in super.

Daryl Dixon, a super fund specialist who chairs Dixon Advisor says, “The reality is that many on lower incomes would be better off receiving more after-tax income [now] and improving their already low living standards”.