Reserve Bank Review

by David Richardson

This is the Australia Institute’s submission to the review into the functions and operations of the Reserve Bank of Australia (“the RBA”).

Subsection 10(2) of the Reserve Bank Act 1959 (hereafter “the Act”), which sets out the objectives of the RBA, specifies:

It is the duty of the Reserve Bank … to ensure that the powers of the bank … are exercised … as will best contribute to:

  1. the stability of the currency of Australia;
  2. the maintenance of full employment in Australia; and
  3. the economic prosperity and welfare of the people of Australia.

In the 63 years since the Act was passed, the role of the RBA has evolved and changed to the extent that we believe these objectives need reinforcing, updating, and expanding. It is worth stressing that there is no explicit mention of inflation in the objectives above. The phrase “the stability of the currency of Australia” could be interpreted as including inflation, but even if one accepts this argument, there is nothing to hint at a specific inflation target.

Despite its legislation, the RBA’s main objective today is fighting inflation and our assessment is that the outcomes have been poor. Its target of 2 to 3 per cent have been consistently missed over the last decade. We submit that the RBA has been using the wrong tools to fight inflation. It acts as if there is excess demand, especially in the labour market, and assumes that the appropriate approach is contractionary policy.

In that respect it has adopted features of neoliberalism including the use of the non-accelerating inflation rate of unemployment concept, a rate of unemployment to which the economy is automatically headed. In practice this amounts to assuming the economy is not far from the equilibrium rate of unemployment. From this the RBA can then claim it is not worth targeting unemployment and can instead concentrate on inflation. Another aspect of this approach is being overly concerned about inflation expectations taking off among the workforce. Neoliberal models stress inflation expectations when business and workers are assumed to have more equal bargaining power.

The economic power enjoyed by big business is ignored in the RBA’s thinking. This suits the business interests that dominate the board of the RBA. Indeed, we argue that an important reason for the RBA’s bias towards business is the composition of the Reserve Bank board. The perception is that, under the guise of independence, business interests have captured the RBA. A good example was the RBA acting as apologist for big bank profits. Reforms to the RBA are needed to overturn its undemocratic nature. There is also a case for limiting senior staff movements between the private finance sector and government, including the RBA.

We point out that interest rate changes hurt ordinary households and so recommend that the use of monetary policy based on interest rate movements be used sparingly, rather than being a first-line method to impose austerity or provide economic stimulus. In addition, effort should be put into mitigating the effects of inflation rather than just fighting inflation. Simple indexation protects most people who receive government support and similar arrangements could apply to other income recipients.

The RBA sits on top of a banking structure that is uncompetitive and making excessive profits at consumer’s expense. This is in part because the banks dominate the payments system. The RBA has made minor gains against the power of the banks, for example, it reduced the interchange fees on bank cards, but the RBA should be exploring and reporting on alternative models such as structural separation of the payments system and lending functions. The RBA offers banking facilities to government and the banks and there is no reason why those should not be extended to individuals as argued by the Economist magazine.

The conservative bias of the RBA is also evidenced by the almost complete lack of interest in international financial arrangements and whether these are fit for purpose. There are a host of calls for reform of a system which has the US dollar at its centre, and which is biased towards hurting deficit countries and ignoring surplus countries. The RBA, representing a medium power economy, should be leading discussion about the Washington consensus and how it might be reformed. An urgent topic is the appropriateness of monetary arrangements in the South Pacific economies and the challenge of the belt and road initiative.

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