Monetary Policy

Transcript

Philip Lowe, Governor (2016 – Present)

The Reserve Bank's Charter was written in 1959. It's broader than the charter of most other central banks, it's got three key elements. The Reserve Bank is responsible for low and stable inflation, for full employment, and promoting the general welfare of the Australian people. I'm glad we've got this broad mandate, it's, as I said, it's broader than most other central banks, many other central banks just have a mandate to control inflation. In the end, low inflation is not the goal in and of itself, it's delivering low inflation to promote the economic prosperity of the Australian people.

The Reserve Bank Board sets the cash rate on the first Tuesday of every month. The cash rate is the rate that banks use to lend to one another in a short-term money market, but it has a very large effect on mortgage rates in the economy, on the rates that people get on their savings, and affects asset prices and the exchange rate, so it's a very important interest rate.

Sometimes, we need to raise interest rates to achieve those objectives. If the economy's growing very strongly, demand's very buoyant and that's pushing up prices, we might need to raise interest rates to slow the economy, to get things back onto an even keel. Conversely if things are weak and demand is not very strong and inflation's low, we might need to lower interest rates to stimulate demand and get inflation back up towards the target.

When we change interest rates, people obviously notice in their mortgages, and that affects how much they spend. When rates are going up, they have less to spend, and when rates are going down they have more to spend. Changes in the cash rate also affect the exchange rate. If we raise interest rates, the currency tends to appreciate, and when we lower interest rates the currency tends to depreciate. Changes in interest rates can also affect people's confidence. In some circumstances, lower interest rates makes people feel happier, in other cases it, higher interest rates make people feel less happy, and so that affects their spending. Changes in interest rates also affect asset prices. When we have lower interest rates, that tends to push up asset prices, and if asset prices are higher, people might feel wealthier, and if they're wealthier, they might spend more, and conversely, if higher rates might mean lower asset prices, then people don't feel as confident and they don't spend as much.

Our Board is made up of mainly outside people, who are either business people or people who have experience in other areas of public policy or public service. And I think that's really valuable. What I notice about business people and people who have the broader experience is they're very good at making decisions under uncertainty, and much of what the Reserve Bank Board is doing is making a very important decision in a quite uncertain world, so we're trading off things all the time and we're trying to make the best decision in the welfare of, best welfare of the people of Australia. And the business people and people with outside expertise are very good at doing that. Daresay they're actually better doing it than economists, so I like, kind of having this broad perspective on our Board, I think it also helps the legitimacy and the public accountability of the Board, it's much better to have the interest rate decisions made by this broad group of people rather than primarily made by technical, academic economists. So I'm a strong fan of our current board structure, although it's quite different from the boards of most other central banks.

At a very practical level, we operate a flexible medium-term inflation target. Our objective is to deliver an average rate of inflation for the community between two and three percent, over time. We're prepared to allow the inflation rate to move up and down over time, but we want people to be confident that over time, inflation in Australia will be two point something. And if people are confident of that they can go about making their decisions about saving, investment and spending, with assurance that inflation will be low and stable, the value of their money will be protected because it won't be eroded by inflation, then they can have certainty about what the price level will do over time.

Transcript

Guy Debelle, Assistant Governor (2007 – Present)

The Bank has two roles: it operates in the domestic market and it operates in international markets. The Reserve Bank Board sets a target for the cash rate at its monthly meetings and it's the job of the domestic operations to make sure that target is actually achieved. It does that by adjusting the supply of funds in the interbank market, so that the banks have an incentive to lend their money between themselves at the cash rate. So we control the supply; they have the demand, and the net outcome of that is the price.

To adjust the supply of liquidity in the market, the Bank operates in the market by either buying or selling securities, which is the stuff you read in textbooks. But mostly what we do is actually something called a repo, which is we lend or borrow money from the banking system against collateral (normally a government security), but also bank paper as well. So we inject money into the system by lending to a bank and, in return, they provide us with a security.

We operate in the market every day. We do it at 9.45 in the morning, so at 9.30 am we publish on the news services what our intention is that day: we tell them how much liquidity we're going to inject, what we intend to inject into the market, and at what term we're going to do.^[*] So we don't lend overnight generally – almost never. We lend for a period of time – a month or two. The banks, or any other participant, can ring us back with their bids by 9.45 am each day. It's an auction, so whoever gives, or offers us the best price, is the one we accept. Normally we accept multiple bids and we also do, since last November, a second round of open market operations, potentially each day at around 5.10 pm in the day, about one in every two or three days. With the move to fast settlements now, there is a requirement that the liquidity position in the market at the end of the day is right where we want it to be.

It's because we operate in the market every day that we get to assess the demand of counterparties for liquidity. As I said, we control the supply, they have the demand, and we can see how much they're demanding. If they're demanding more, we can increase the supply to make sure that the price, which is the cash rate, stays where the Board wants it to be. But also because we're interacting with market participants every day in doing these transactions, it gives us a lot of insight into the conditions in the market because we're actually a participant in the market ourselves.