Monday, March 31, 2008

Interest Rate Increase Would Be An April Fool’s Mistake

Well it’s the end of another month, and a new month is upon us. April begins with a Tuesday this year so not only is it April fool’s day, but the Reserve Bank of Australia board is meeting once again. So are we to expect another interest rate increase?

These are, in some ways, extraordinary times. Unemployment is at a record low. Economic growth, despite the global situation, has yet to slow significantly. Inflation is still being targeted as the number one priority of both the reserve Bank and the Federal Government. All of those factors point to a possible interest rate rise.

But, at the same time, there are clear signs that further interest rate increases are not needed. Retail sales have softened. Real Estate auction clearance rates have plummeted. Mortgage stress is pushing more and more families closer to the financial edge, and not just in low income families. Banks have taken it upon themselves to increase interest rates independently of the Reserve Bank. All of those factors suggest that there is no need for any further interest rate increase.

In fact, an increase could well prove to be the last straw, not only for mortgage holders, but for the economy too. The current international crisis has been triggered by unsustainable debt, and Australia also has high levels of debt. One of the best mechanisms for tackling high debt is to allow inflation to erode some of its value.

The economy is bit like a shark: it needs to always move forward to stay healthy. While increasing interest rates are intended to slow the economy, high debt levels act to magnify that effect, so that the slowdown could easily become more severe than intended.

For those reasons, I believe that an interest rate rise is not needed at this time. It remains to be seen if the Reserve Bank agrees with me.

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