To the RBA, low-income families are human brake-pads. Let me explain.
In 1932, Australian unemployment hit a peak of 32 percent. Families struggled to scrape together enough to eat and more than 60,000 men, women, and children became dependent on government payments. For a nation still recovering from WWI the timing was devastating. Suicide rates experienced a tragic spike that has never been equalled.
When we think of being without a job, we often think of the financial impact to the household, however the psychological impact is immense. Protecting and providing for the family is a universal theme of human culture, tied to concepts of honour and identity. Philosophers through the centuries have observed that humans require meaningful work to truly flourish. Pointless work and forced inactivity have been used throughout history as a means of torturing prisoners.
It is no surprise then that the promotion of “jobs and growth” is a staple of political campaigns around the world. But beginning in the 1950s a connection was proposed between unemployment and another economic spectre capable of threatening the employed and jobless alike. Kiwi economist, A.W. Phillips devised a chart now known as the Phillips curve, which supported the idea that as the employment rate increased, so would inflation. To use a well-worn phrase: if inflation is, “too much money chasing too few goods”, then the greater the number of people with jobs, the more money available to families and the greater the number of consumers that will appear at the grocery shop trying to buy the same avocados and driving up prices through competition.
This suggests a perverse tug-of-war. Without jobs, individuals become depressed and families starve. With too many jobs, the economy overheats as families compete for goods.
Milton Friedman and Edmund Phelps amended the Phillips Curve theory by linking inflation to the expectations of workers and firms, introducing the concept of a natural rate of unemployment, and contrasting the short-term vs long-term applicability of the curve. Largely though, the concept of connecting employment to inflation remained the same.
If this tradeoff is correct, there is only one responsible thing to do to prevent inflation from destroying the economy: we must take jobs away from people. And that’s precisely what the RBA aims to do when it increases interest rates to apply pressure on businesses. They’re looking to create an environment where company profits are strained and people lose their jobs. The RBA raises the cash rate, then carefully studies the employment rate to see if the desired drop in jobs is achieved.
Of course, it’s not the jobs per se that are the problem, but the money. If people weren’t paid for their work there’d be no risk of increased employment causing inflation. So increasing the unemployment rate is only part of the solution. What really needs to happen to solve the problem of “too much money” in the economy is convince people to spend less. Fortunately, the Australian economy has been designed with a built in brake-lever: the family home. Conveniently, this brake lever is also activated by increasing interest rates.
The overwhelming majority of Australian mortgages are on variable interest rates, meaning that banks can increase or decrease the cost of the mortgage whenever they like. Roughly 97% of new mortgages at the end of 2023 had variable rates. Given that the mortgage is often the single-biggest family expense, this effectively gives the banks a chokehold on the family budget. If the banks say “Pay!”, Aussie families say, “How much, sir? Yessir! Thank you, sir!”.
Of course, the control of banks over private households is only a reality for a limited number of families. Can you guess which ones? That’s right – it’s the families with the lowest incomes. If the bank hikes the rates on a rich family, what do they do? Maybe switch the upcoming holiday from Europe to Japan. If times are really hard, a wealthy family might sell off one of many investment properties, or fire the guy who comes to clean the pool. Weekly consumption for these families doesn’t need to change one dollar when interest rates rise because there’s plenty of cash on hand.
When the rate-hike hits a low-income family, they are faced with a different set of decisions. How much food can we afford this week? Maybe we’ll delay that trip to see the grandparents to give us time to save up for fuel. A bump in interest rates is highly effective in reducing the spending power of low-income families.
If the strategy of hiking interest rates succeeds in limiting the demand for goods and services, it can only be because we’re forcing people to go without. The only people with budgets sensitive enough to be affected by the increased loan fees are low-income households. When the RBA hikes interest rates, leading retail banks to follow suit with the rates on mortgages, we are forcing vulnerable families to become the human brake-pads of the economy once more.
This has been termed a “policy of cruelty” and we ought to ask why the RBA is committed to such a deeply unfair approach to controlling the economy.
There are two answers to this. The first is that controlling interest rates is the most direct way for the RBA to execute its formal policy of interest-rate targeting. The RBA has a standing agreement with the federal government to target inflation of 2-3% and believes this rate of inflation is ideal for promoting a stable economy. Whether or not that belief can be justified is a question for another time.
There is a more important reason that the RBA targets low-income households to reign in spending and that is because the federal government has left it no other choice. Government has at its disposal a wide array of fiscal tools, such as changing taxes or regulations in different markets, which can be used to limit spending when inflation rises, even in wealthy households. But these tools simply aren’t used.
Moreover, government has the ability to tackle the problem of inflation from an entirely different angle – through helping to improve per capita productivity and avoiding the creation of unsustainable demand by limiting immigration to responsible levels. But the government doesn’t do this either. In fact, highly aggressive immigration policy from the federal government has been a key driver of Australia’s current inflation, especially in the housing market where there is transparently too much money chasing too few homes.
So the RBA has been left hanging, and under the pressure of its commitment to target 2-3% inflation it really has no choice but to hike interest rates in an attempt to slow inflation. It is not an enviable job. The blunt nature of monetary policy compared to the “nimble” potential of fiscal tools was emphasised by outgoing RBA governor, Philip Lowe, in 2023 as he reflected on being named the most unpopular man in the country.
Of course, explaining the behaviour of the RBA by pointing to the federal government only raises the question, why is Canberra doing so much to stoke inflation and so little to control it?
The answer this time cuts back to the heart of politics in a representative democracy. Our leaders are competing in a popularity contest. Take it from Philip Lowe – he says that’s why the RBA was created in the first place.
"It's much harder for the political class to be unpopular in the way the Reserve Bank and I am unpopular... and that's largely why setting of interest rates and managing the inflation cycle has been assigned to an independent central bank who doesn't have to worry about being re-elected and being popular."
So while existing fiscal policy is running young Australians and vulnerable families into the ground, the government is satisfied that the continued import of skilled workers from around the world will reliably boost GDP and house prices and ensure that those with significant investments in assets feel secure in their wealth. As cynical as it sounds, the political mathematics indicate it’s more important to take care of the wealthy homeowners who have paid off their mortgages, because they represent a larger voting bloc.
In the 1930s, many felt that governments had utterly failed as families were stranded without the jobs they needed to survive. Today, the spectre of unemployment has not disappeared. We find ourselves in a bizarre reality where the monetary authorities are deliberately increasing mortgage stress for the poorest loan holders while also actively seeking to put more people out of work. At the same time, government is throwing the doors wide open to hundreds of thousands of new Aussies forcing those without property to fight it out in the most competitive housing market the nation has ever seen. This contradiction of institutions is a spectacular failure. It sacrifices families for the sake of superficial gains, even while undermining per capita GDP and threatening our productive future.
As Philip Lowe intoned on departure from the RBA, the response to COVID-19 demonstrated "just how powerful it can be when the government and RBA work closely together". We need leaders willing to set aside superficial metrics and collaborate for genuine institutional reform, to give families the dignity they deserve, recognising them as the backbone of the nation and not expendable fodder for our economic machine.