Prepare for cash rate increase, says OECD

by Madelin Tomelty30 Nov 2016
The Reserve Bank of Australia is being urged to prepare the nation for official interest rate increases in 2017 to avoid a housing market blowout, according to a report by the Australian Financial Review (AFR).
 
The Organisation for Economic Co-operation and Development’s (OECD) latest Global Economic Outlook, released on Monday, indicates that it sees considerable trouble ahead, and states that governments around the world need to focus on making better use of fiscal initiatives “to push the economy out of today’s low-growth trap”.
 
Addressing the “rich country” monetary policies that have led to “five years of disappointingly weak outcomes”, OECD Secretary-General Angel Gurría said, “In light of the current context of low interest rates, policymakers have a unique window of opportunity to make more active use of fiscal levers to boost growth and reduce inequality without compromising debt levels. We urge them to do so.”
 
“This is not a blank cheque for governments,” she added. “The OECD is calling for fiscal policy to be used more wisely, with spending targeted at areas that boost growth, like high-quality infrastructure investment, innovation, education and skills, which also make growth more inclusive.”
 
According to the AFR, the Turnbull government's failure to be more bold on tax reform – including by widening and raising the goods and services tax – has led to an economic situation in which there is now an increasing need to unwind house prices and correct “financial distortions” caused by ultra-low official interest rates.
 
“The Outlook identifies a number of financial risks where exchange rate and capital flow volatility coupled with pricing distortions are exposing the vulnerability of corporate balance sheets, particularly in emerging markets, and challenging bank profitability and the long-term stability of pension schemes in advanced economies,” the Outlook states.
 
Low interests benefits have passed
The US Federal Reserve is widely anticipated to increase rates next month and again next year, while on local shores many are predicting the RBA will keep its official cash rate at its record low of 1.5% well into 2017, with an increasing number of economists starting to predict hikes from September onwards.
 
"Monetary policy tightening is expected to commence towards the end of 2017 and this is appropriate given likely monetary policy developments elsewhere," the Outlook says, suggesting that the Reserve Bank will be able to respond by tightening policy without fear of driving up the Australian dollar.
 
The OECD argues that the benefits of a low interest rate environment are starting to "narrow," which may be interpreted as an expression of concern over rising house prices in Sydney and Melbourne, despite tighter lending regulation.
 
The Outlook also notes that a dramatic drop in house prices "would weaken consumption demand and construction activity".
 
Government urged to invest and spend, not tighten
The Outlook’s report card on Australia also claims there is still "space for fiscal loosening" if borrowed money is used for "accelerated infrastructure development and investing in skills – an area where Australia falls short of top-performing countries" - a statement that blatantly challenges Treasurer Scott Morrison's plans to continue tightening the budget.
 
The Outlook recommends more budget spending across the world's developed economies, and a rejection of Donald Trumps’ trade protectionist agenda, which it states will end up hurting many lower-income households, while also ensuring "social measures" to share gains from globalisation.
 
"There is room for spending increases, notably an acceleration in the public investment programs under way in telecommunications, roads and public transport systems," it says.

The OECD predicts the Australian economy to gradually accelerate towards 3% growth by 2018, helped by a pickup in natural gas exports and an apparent increase in household spending "as wages and employment rise."
 

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