Can the bank just print more money? Why Australia is considering quantitative easing

Treasurer Josh Frydenberg. Source: AAP

If quantitative easing happened in Australia, the country would be somewhat of a test case. Here's what it would mean and how it works.

The Reserve Bank of Australia has cut the official interest rate three times this year, from 1.5 per cent to 0.75 per cent after two years of no moves.

As a result, mortgage rates are now the lowest on record, which is good if you’re borrowing money, but if you’re a saver the interest being earned on your deposits is close to zero.

Interest rates don’t fall if the economy is doing well, they fall if economic growth is stalling or is threatening to slow.

Even though Australia is entering a record 29th consecutive year of economic expansion, the last GDP report showed growth eased to a decade low.

The RBA’s interest rate cuts were hoped to encourage consumers to spend and businesses to invest. But that’s not happening.

The Reserve Bank of Australia
The Reserve Bank of Australia.

Instead of taking those interest rate savings to the shops, borrowers are paying off their mortgages faster.

With fewer shoppers, businesses are finding it hard to hire more workers, which was reflected in the latest labour market report showing the first decline in job creation in nearly one-and-a-half years. As a result, wages aren’t rising sufficiently and inflation is soft.

Lower interest rates have attracted many buyers back to the property market though, with Sydney and Melbourne seeing a rebound in prices recently, and to the share market, which is currently trading at record highs because shares offer better returns than cash.

So, what now? 

The Reserve Bank is running out of ammunition in the form of interest rate power because it's heading closer to zero and has indicated it is considering using unconventional monetary policy.

This can be in the form of negative interest rates, which it has ruled out, or buying our currency to devalue it, making our exports cheaper.

It can also offer forward guidance by telling the market to expect low interest rates for a while, which it already has done, and provide cheap funding for banks, but the banks aren’t facing funding problems at the moment.

That leaves the option of quantitative easing.

Quantitative what? 

Quantitative easing, or QE, is when a central bank like the RBA buys or prints money to purchase government bonds or private bonds.

As a result, it flushes the economy with money, which can then be used to invest and, hopefully, create jobs. It’ll also encourage the banks to continue to lend cheap money.

The RBA is reluctant to use this form of stimulus though, because with cheaper money, assets like property may over inflate.

Speaking at an event last week, Reserve Bank governor Philip Lowe said that quantitative easing, in the form of government bond-buying, would only be an option once official interest rates fall to 0.25 per cent.

Does it work? 

AMP Capital chief economist Shane Oliver says he doesn’t see QE as being bad for Australia.

“By resulting in lowering borrowing costs, higher asset prices, and hence, wealth levels and a lower than otherwise Australian dollar, it should actually help boost growth.”

“The main downside is that it could exacerbate inequality by pushing up share and property markets. For this reason, fiscal stimulus [an increase in public spending by the government] would be a better path to go down than QE, as fiscal stimulus can be targeted in a fairer way.”

NAB chief economist Alan Oster said QE won’t be bad, but the government needs to do its part.

“It will help at the margin but is unlikely to get private sector demand going, even in combination with two more rate cuts. What is really needed is fiscal stimulus.”

“We have surpluses to use if parts of the economy struggle. That is happening now in the private sector. Possible options include bringing forward the second round of tax cuts, short term infrastructure spend, increased investment allowances, and increased Newstart allowances.”

Has it worked overseas?

If Australia goes down the path of quantitative easing, it would be somewhat of a test case because it would be delivered at a time when the economy is still growing, albeit slowly. 

QE was deployed in Europe and the US when those economies fell into recession following the global financial crisis and once interest rates hit zero.

Of course, austerity measures also kicked in, including cuts to welfare which increased inequality.

AMP's Mr Oliver says while it took some time, it had worked to an extent.

“Since its high in 2013, unemployment in the Eurozone has fallen from 12 per cent to 7.5 per cent, and in the US it fell from 9 per cent in 2011 to 4 per cent in 2017, enabling the Federal Reserve to start ending QE.”

“Inflation has not yet been returned to 2 per cent targets, but wages growth has lifted and at the start of last year, it looked like the global economy was getting back to normal, before being knocked off the rails by President Trump’s trade war.”

While it eventually improved those economies, the path to recovery took some years. 

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