Analysis: Threshold for RBA QE Low if Lowe Right About H’Hold Debt

• Published on
• 28 Nov 2019, 03:44 PM

By Sophia Rodrigues

If Reserve Bank of Australia governor Philip Lowe’s view on household debt is correct, the threshold to consider Quantitative Easing may not be as high as it appears, making second half of 2020 as a likely timing.

At the Q&A session following his speech on QE on Tuesday, Lowe said the RBA is not particularly worried about rising house prices at the moment but would be worried if credit growth were to pick up materially in response to high prices.

“Household debt and the vulnerabilities to the economy that come from high levels of household debt..we don’t see that getting worse at the moment,” he said.

Lowe’s view that credit growth won’t pick up materially hasn’t changed in the last few months since house prices began rising.

Rising house prices but without a material lift in credit growth is a combination that the RBA is seeking because the former would provide significant support to the economy and the latter will ensure financial stability risks are contained.

This combination exists currently but is unlikely to last long because for housing prices to continue rising at a strong pace, a material rise in credit growth would have to occur..

This would mean growth in house prices would slow next year or credit growth will pick up strongly.  Given the RBA doesn’t think the latter is likely, there is more possibility of slower house price growth, and this would be supportive for QE once the remaining two rate cut options are exhausted.

An environment of slower house price growth and subdued credit growth would be an ideal one for RBA to consider further easing so it can hope for acceleration in the progress towards meeting full employment and inflation goals.

REMOVE HOUSING MARKET AND THRESHOLD FOR QE GETS QUITE LOW

If the housing market is removed from the question, the threshold for QE is quite low because all it requires is the unemployment rate to stay elevated and move towards 6% even after the cash rate falls to the effective lower bound of 0.25%.

Given the relationship between the labor market and the inflation, a jobless rate in the 5s would mean the RBA is moving away from both full employment and inflation goals.

Already the RBA is “quite a long time” away from meeting its 2.5% inflation goal, and rise in unemployment rate would mean this timeframe would extend much further.

At the Q&A session, I asked a question on how many years the RBA is looking at for acceleration in wages to transmit to increase in inflation, given the longer lag between rise in wages and rise in inflation in a low interest rate setting.

Lowe said there is likely to be “quite a bit of delay” for a pickup in inflation to happen, and if in the “fullness of time” the RBA didn’t believe it would get there, it’d “have to change direction.”

RISING EXCHANGE RATE MEANS EARLIER QE

The threshold for QE would get lower still if the exchange rate were to start appreciating for reasons including global developments.

Lowe didn’t mention exchange rate when he discussed the threshold for considering QE but given the exchange rate has been one of the important reasons behind the RBA’s recent cuts, it is very likely to be a key reason for further easing, including QE.

In his speech Lowe downplayed the impact of government bond-buying on exchange rate.

Lowe said buying government securities would result in a lower term premium that would lower borrowing costs for both governments and private borrowers, and would bring the benefits that come with that.

“An exchange rate effect could also be expected.”

However,  given the importance of exchange rate to the economy, it is not difficult to think that the exchange rate would be an overriding factor that would take the RBA down the QE path.

--Contact: sophia@centralbankintel.com