(Bloomberg Opinion) -- The jump in inflation has put the Reserve Bank of Australia precisely where policy makers didn't want to be: Raising interest rates in the middle of a national election campaign.
A red hot economy forced the hand of the central bank that's long been depicted as one of the few monetary doves left on the planet. The RBA lifted its benchmark rate by a quarter point to 0.35% on Tuesday, more than anticipated, and said additional hikes are all but certain. The Aussie dollar rallied and bond yields soared. A country that before the pandemic appeared to defy gravity by lasting for decades without a downturn now finds itself subject to rate hikes — and the attendant risks of a new slowdown — along with pretty much every advanced economy. The Federal Reserve is this week projected to become more aggressive against inflation with a half-point increase in its main rate.
It has been an article of faith in Sydney's financial district that the RBA strives to avoid entanglement in electoral politics. And until a few weeks ago, most economists confidently predicted Governor Philip Lowe would wait until after votes were cast in the May 21 poll. That calculus changed dramatically when figures released last week showed the pace of price increases had burst through the bank's 2-3% target. While the RBA sets rates independently from Canberra, failure to act risked being seen as political — a characterization that's anathema to monetary chiefs the world over.
Not that any candidate will thank the RBA. The opposition Labor Party will put Prime Minister Scott Morrison's center-right coalition on the defensive over more costly mortgages. Yet Labor knows that if it is victorious in three weeks, its honeymoon may be ruined by multiple rate hikes and stubbornly high inflation. Morrison put economic management at the center of his defense against Labor. The premier can spin the rate hike as a validation of the strength of the recovery. But overheating — implicit in the RBA's move — leaves him vulnerable. Morrison should have been careful what he wished for.
For its part, the RBA looks like it has misjudged both the velocity of the economy and the potential for inflation to pick up quickly. Only this year did the bank concede a hike in 2022 was plausible. Lowe had been saying for much of last year that rates may not need to be nudged up until perhaps as late as 2024. In retrospect, with borrowing costs climbing in advanced and developing economies alike, such a timeline looks ludicrous. Few people Down Under were covered in glory Tuesday.
What was the RBA thinking? In its errors — and the explanations for them — the central bank is well within the global mainstream. Stung by years of below-target inflation, Lowe had grown skeptical of forecasts that an inflation spiral lurked behind every good growth number. He wanted to be in the business of basing policy on inflation outcomes, not just projections. The potential reward was driving unemployment down to levels unseen in generations. This was the historic opportunity that beckoned.
This time, however, inflation came on strong. The rapid rebound from the pandemic-induced recession, massive monetary aid during the slump and supply-chain constraints afterward proved the worriers correct. Like central banks everywhere, the RBA is likely to hurry to get to neutral, a vaguely defined area that neither juices nor hampers the economy. If Lowe has to go further and constrain the economy, he probably will. New official forecasts show underlying inflation pushing up to 4.75% this year, well north of the target. “The Board is committed to doing what is necessary to ensure that inflation in Australia returns to target over time,” Lowe said in a statement. “This will require a further lift in interest rates over the period ahead.”
This decision is one for the ages. Not only is the RBA getting off zero and doing it during an election contest, the bank managed to wrongfoot even the forecasters who tipped a move today. That camp largely predicted a move of 0.15%, with a bigger step to come in June. The folks who thought officials would wait rooted for as much as 50 basis points in June.
Lowe risks pleasing nobody. That makes the step no less vital. With both sides of the political aisle pledging a review of the central bank, life is bound to get even more interesting for the RBA.
More From Bloomberg Opinion:
- RBA Hike Is a No-Brainer. Will Politics Intrude?: Daniel Moss
- Fed Needs to Do More Than Raise Interest Rates: Mohamed El-Erian
- Why the Fed Keeps Underestimating Inflation: Allison Schrager
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Daniel Moss is a Bloomberg Opinion columnist covering Asian economies. Previously he was executive editor of Bloomberg News for global economics, and has led teams in Asia, Europe and North America.
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