The Reserve Bank of Australia is edging closer towards deploying unorthodox monetary stimulus such as buying government bonds, and the bank has announced that governor Philip Lowe will dedicate a speech to the topic.
Dr Lowe will speak on “Unconventional monetary policy: some lessons from overseas” at the Australian Business Economists dinner in Sydney on November 26, the RBA has said.
The RBA is close to exhausting its traditional interest rate ammunition and is considering quantitative easing, a form of central bank money printing.
The cash rate is at a record low of 0.75 per cent and the bank conceded on Friday that it was more than two years away from lifting inflation back into its 2-3 per cent target and hitting its informal unemployment goal of 4.5 per cent.
The chances of another rate cut in March have been priced in about 50 per cent by financial markets.
IFM Investors chief economist Alex Joiner said the coming speech by Dr Lowe would “garner a lot of market interest as the bank searches for policy options” such as so-called quantitative easing (QE).
“Most people think the RBA has one or maybe two rate cuts left before it has to consider the unconventional,” Dr Joiner said.
“It must have that contingency up its sleeve and the RBA wants to present that possibility much more formally.
“You would hope this speech would crystallise the willingness of government fiscal policymakers to step in to support the economy before QE.”
Central banks in the United States, United Kingdom, Europe and Japan have resorted to QE since the 2008 global financial crisis.
Under the process of QE, central banks create money and buy assets in financial markets such as government bonds, or in the case of Japan listed equities, to drive down long-term bond yields and increase the appetite for risk assets.
Dr Lowe has previously said the most plausible form of QE in Australia would be buying government bonds to lower the “risk-free” interest rate to influence borrowing costs across the economy and to put downward pressure on the Australian dollar.
He said in September that unconventional monetary tools were “unlikely” but “possible” in Australia.
That assessment appeared to change last week when the RBA’s statement on monetary policy said that “rates were already very low and that each further cut brings closer the point at which other policy options might come into play”.
JPMorgan economist Ben Jarman said Dr Lowe’s coming speech was likely to reiterate the bank’s September parliamentary testimony that a “package” of measures was most effective, such as buying government bonds and pledging to keep rates low for an extended period – a pledge known as “forward guidance”.
Tools of unconventional policy
In detailed written responses to a parliamentary committee, the RBA outlined six forms of unconventional policy that had been used overseas.
The tools included buying government bonds, providing cheap longer-term funding to banks to lend to households and business, foreign exchange intervention to drive the currency lower and purchasing private sector assets, such as mortgage-backed securities, corporate bonds and equities.
Dr Lowe has said one tool – negative interest rates – was extraordinarily unlikely in Australia.
Economists believe the lower bound of the cash rate is 0.5 per cent or 0.25 per cent, because at very low interest rates, commercial bank profit margins get squeezed and they will pass on less of the RBA cash rate cuts.
JPMorgan economists said this week that the RBA was likely to cut rates in February, leaving the door “wide open” for unconventional policy in late 2020.
The investment bank believes the package will include purchasing up to $50 billion of Australian federal government bonds and continued use of forward guidance.
As the RBA runs out of room to cut interest rates, Dr Lowe has repeatedly called for government fiscal policy, such as infrastructure spending, to help stimulate the economy.
The Morrison government is committed to delivering a budget surplus this financial year.
The bank and government are aware that falling interest rates could hurt consumer confidence.
“It also took into account the possibility that further easing could unintentionally convey an overly negative view of the economic outlook, or that the usual channels of policy transmission might be less effective at low interest rates,” the RBA said on Friday.
“That said, the board still assessed that lower rates would support the economy via lower exchange rate, higher asset prices and a boost to aggregate household disposable income.”