OPINIONS

Take away the punch bowl Dr Lowe, it’s making us sick

Andrew Mohl March 2021

The RBA governor is the ring leader of another house price party. But he does not have the control that everyone thinks.

I was taught that a good central bank took the punch bowl away just as the party was getting going.

Things have certainly changed.

Today the central bank invites everyone to the party, supplies the booze, and as the party is really getting going, brings in extra supplies and extends the curfew.

Welcome to central banking in 2021.

Home loan customers are being seduced into taking on huge loans relative to their income by record low interest rates.

Interest affordability is better than it’s been for years.

Governor Lowe is telling borrowers not to worry, the low rates will last until at least 2024.

Borrowers assume that the RBA must be getting it right

He should know, they think; he has a PhD, and is head of the Reserve Bank of Australia - one of the biggest jobs in the land.

Bond markets are literally screaming out that these low rates on offer today are not going to last.

Well, maybe this will turn out all right as Dr Lowe wants you to believe, but maybe, just maybe, it won’t.

The bond market is certainly not so sure.

Ten-year bond yields last week went over 1.9 per cent – double the level of the record low yields reached last year. Strange how little has been said about that and the billions of dollars of losses for investors, including superannuation funds, holding those bonds with a coupon less than 1 per cent.

But just ask yourself, those bond investors now demanding 1.9 per cent per annum for 10 years are effectively saying to those home buyers gearing up to their eyeballs in a world of cash rates of 0.1 per cent: “Don’t do it!”

They are literally screaming out that these low rates on offer today are not going to last.

And that’s despite the RBA manipulating the short- to medium-term bond market by extraordinary central bank purchases of bonds, by past standards, pushing up prices and driving down yields. YCC, or yield curve control, in the modern vernacular.

The bond market vigilantes have been missing in action for a long while, but they are back with a vengeance for now, and maybe we should be glad that they are!

Australian home loan customers typically borrow on floating rate terms, so if the short-term rates rise, their loan rate typically follows.

Those eye-popping fixed-rate loan deals will also now be getting repriced upwards.

Imagine a scenario in 2024 when home loan rates have moved up 2 to 3 percentage points, those surging house prices in early 2021 have not only plateaued, but dropped by more than 10 per cent, FOMO is a distant memory, and the pain is setting in for a key segment of the population.

Our current new home buyers are then staring at rising interest commitments, lower net income for discretionary spending, and negative home equity.

That will be some hangover from the party of 2021.

Maybe this scenario will not come to pass. As they say, forecasting is very difficult, especially when it’s about the future.

But what is the RBA governor doing as the ring leader of a housing boom leveraging record low interest rates, crushing the income of retirees, and asking households to pile on debt upon debt?

It would seem it’s all about getting inflation back into the 2 to 3 per cent range.

This seems to be some sacred range which we must pursue at all costs, because somehow everything will all just fall into place if we can get there.

Frankly, who really cares about an inflation rate of 2 to 3 per cent?

Inflation has fallen for decades now and only the true believers still think that the central bank has much influence on the rate of inflation any more.

The transmission mechanism is certainly looking suspect, if it now involves QE on steroids, and asset price bubbles thrown into the mix.

We would all be better off if the RBA came clean and admitted that the secular decline in inflation had little to do with it, that it therefore had no real lever to get inflation back up to the target range of 2 to 3 per cent – which is why it has missed its target for years – and now the US Fed has adopted QE, we are actually stuck between a rock and a hard place.

We either follow the US Fed and its peers blindly and hope for the best. That’s the plan we are on.

Or we reject its approach, try to go it alone, and face a rising Australian dollar and widespread demands from all and sundry for monetary easing.

To be sure, things look pretty good today, the night is still young, the music is loud, and there is plenty of grog left in the fridge.

Lots of people are enjoying themselves. But honestly, I feel sick.