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23 Sep 2022 - Hedge Clippings |23 September 2022



Hedge Clippings | Friday, 23 September 2022

Last Friday RBA Governor Philip Lowe appeared before the House of Representatives Standing Committee on Economics, in part to report, and in part to rebuff suggestions from some quarters that he should resign on account of misjudging the outlook for inflation, and thus his 2021 expectations for interest rates not to rise before 2024.  As he pointed out in his opening statement, much has changed since he last fronted the Committee in February, just seven months ago:

  • Unemployment has fallen from 4.2 to 3.5%;
  • Inflation was 2.5% - the highest it had been for years, now expected to peak at 7.25% before the end of the year;
  • Official interest rates were just 0.15%, and currently sit at 2.35%, with expectations of 3.5% or more by early 2023.

Since his 2021 statement rates have risen five times. Lowe could have used the old, supposed quote from various people, including John Maynard Keynes and Winston Churchill and others, to the effect that "when the information changes, he changes his conclusions". This week he could also use the fact that Australia is just one of 90 countries to have increased interest rates this year as they fight the "scourge" of inflation - even if their economies succumb to a recession in the process. To quote from his prepared statement of last week:

"A powerful lesson from history is that low and stable inflation is a prerequisite for a strong economy and a sustained period of full employment. High inflation damages our economy, worsens inequality and devalues people's savings. High inflation also makes it very difficult to sustain, or increase, real wages. It is a scourge. It is for these reasons that the RBA is committed to returning inflation to the 2 to 3 per cent target range over time."

This week the US Fed increased rates by 0.75%. In the UK the Bank of England, facing inflation of 10%, upped their rates by 0.50%, the 6th increase this year, while Norway, Sweden (+1.0%), Switzerland (+0.75% and now in positive territory for the first time in eight years), plus South Africa, Indonesia, Vietnam, Mongolia, Taiwan, and the Philippines, all increased rates.

Going against the trend, Turkey dropped theirs by 1%, but that was from 13 to 12% in spite of inflation running at its highest for 24 years, and, not surprisingly, in the face of "a loss of momentum in economic activity." Japan's central bank also stood out by not increasing rates, but intervening in markets to support the tumbling Yen. Also swimming against the tide were China and Russia, both of which have their own specific economic and other issues to deal with, and which are also impacting the rest of the world.

China's woes include an ongoing slowdown resulting from COVID restrictions, even as it seems the rest of the world have or are emerging from the worst effects of the pandemic which is generally accepted by all except the Chinese government to have originated in Wuhan, and which is approaching a three year anniversary. According to Noel Quinn, the CEO of HSBC Holdings Plc., the correction to China's commercial real estate market was "massive, faster and more decisive than expected", and may have at least another two years to run.

Also supporting Lowe's explanation of changing conclusions with the change in available information would surely be Russia's invasion of Ukraine, which caught politicians across the western world, and Europe's economy, and energy supplies in particular, off guard. Just to add to the uncertainty, Putin upped the ante this week when facing defeat at the hands of a supposedly weaker, but fully committed opponent, losing face by calling up 300,000 reservists, and threatening the use of nuclear weapons, which would presumably escalate the war, rather than end it.

Australia's economy may or may not escape a recession, but along with the rest of the world's central bankers, Philip Lowe is clear about his priority: The longer term threat from inflation is greater than the shorter term risk of a recession. Which takes us back to Paul Keating's quote of the "recession we had to have".

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