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Why is the RBA raising rates?

Q. I cannot understand why the Reserve Bank is raising interest rates so aggressively when they cut them, which encouraged people into home loans to help the economy, but now they are hitting them with rate rises. Why would they do this? 

A. There’s a fair bit of truth in your analysis. When the RBA thought we were possibly heading into a very deep recession, or a depression, they cut interest rates by 4.25% and didn’t express any concerns when the Rudd Government made the First Home Owners Grant more attractive. When you think about it, the whole play was a gamble with new borrowers, the meat in the sandwich. The new borrowers could either have lost their job if the economy collapsed as was expected or they were bound to cop higher interest rates if the economy recovered. The irony is that the very action of buying a new home, in particular, helped the economic recovery and meant it would be more likely that the rescuers — homebuyers — would be penalised by higher interest rates for their trouble. There are many commentators who will justify the rate rises by saying that it would have been naïve to expect interest rates would remain at emergency levels for a long time, but that’s exactly what’s happening in most countries of the world. In addition, the emergency rates in these countries are below ours, closer to 0 to 1%, whereas we dropped to 3%. Personally, there are two reasons why new borrowers could feel used. First, you could argue that the commencement of the first rise in rates in October was unnecessarily early. Second, the pace of increase — actual and promised — is unnecessarily quick. Finally, every increase in interest rates puts pressure on the Government to pull back on its stimulus, but if they went too hard they could slow down the recovery. Economic policy from government and the Reserve Bank is always a bit of a gamble but I’m not sure the Big Bank is punting all that brilliantly and it’s our chips on the line. 

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Published on: Friday, November 13, 2009

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