What should the RBA be doing?
My son called the other day to say I’d been mentioned in the Fin as a possible candidate for the the Board of the Reserve Bank. If I were a serious contender, this would be the cue for me to adopt a pose of grave silence on all policy issues, interspersed by gnomic observations to be pored over for their inner meaning. I’m not a serious contender (even if it’s nice to be thought of as someone who might be) so this seems to be a good time for unsolicited advice to whoever gets appointed.
In the short term, I’m pretty happy with the settings of macroeconomic policy. The Rudd government and the RBA got the monetary and fiscal stimulus right in 2009, and the move back to fiscal surplus and neutral settings for monetary policy has been paced appropriately (the government’s insistence on relying on spending cuts rather than scrapping the last stage of the tax cuts promised in 2007 was a big mistake in terms of budget policy, but that’s a different issue).
My concern is rather with longer-term issues arising from the GFC. First, it no longer makes sense to separate monetary and fiscal policy as sharply as was done in the pre-2007 period, given that, in any real emergency, the two will have to work together. That doesn’t imply doing away with central bank independence (we’ve had an independent central bank since the RBA was established) but it does imply a degree of co-ordination between RBA and Treasury more like the relationship that prevailed before the 1990s.
Second, the inflation targeting approach, based on Taylor rules, failed globally in the leadup to the crisis and during the crisis. An important lesson (which Stephen Bell and I, among others, pointed out before the crisis) is that low and stable inflation rates do not imply a stable economy. In fact, they may contribute to the growth of asset price bubbles (what Minsky terms the shift from hedge to speculative finance). There’s still a lot of room for discussion about what should replace inflation targeting, but full employment needs to be given more weight than in the past.
Third, the separation between monetary policy and prudential policy needs to be re-examined. Everything went well in Australia, but the problems overseas suggest we need to take another look at this.