Transcript of Question & Answer Session The Economic Outlook and Monetary Policy

My first question is this, you were talking about structural change and Mario Draghi the president of the European Central Bank every time he does a press conference, he talks about the need for structural change in the European economy. Why do central banks think that, and you just talked about it now. Why do central banks think that structural policy and structural adjustment and microeconomic reform are so important?

It's because ultimately, what delivers improvement in people's living standards is productivity growth, and often that can come from structural reform. Monetary policy and fiscal policy in a short term can manage the cycle, but in the end we can't drive stronger growth over the medium term in the Australian economy. What will drive stronger growth is structural policies that promote firms hiring people, investing, being innovative and expanding and so, the policy- settings the government set really are important in that frame. Things like education policy, the attitude towards entrepreneurship and innovation, the way we invest in infrastructure, the design of the tax system. These are the things that ultimately can drive economic growth and I think Mario Draghi talks about that because he feels, as sometimes we do, the frustration that comes from the expectation that central bank can be the entity that drives economic growth over the medium term and the reality is we can't, it's these structural things that drive growth.

Do you think this might be time for Ian Harper to have some of his recommendations considered again? He has a policy on microeconomic reform.

Well, in the long list of things that can promote economic growth, I would include competition policy, and Ian has written about that extensively in the past. So, one of the things that makes firms seek out new ideas, invest in new technologies, employ people, is the fear of competition. So competition policy can in fact be a promoter of economic growth. I think it's worth looking at that again.

Now, I'd just ask a question about monetary policy, and I won't ask about interest rates, but I'll talk about inflation. Jay Powell, who's the Chairman of Fed, has at the last couple of meetings talked about the Fed having a symmetric target on inflation. And what that seems to mean for the Fed is that they're prepared to allow inflation to run above their target of 2% on the PCE deflator for a while to get the actual price level up and so they'd almost be running inflation above the target for as long as they've been running inflation for below the target. If you ever got so lucky as to see inflation take off above the target, your 2-3% target, would you let inflation run a little bit like the Fed is thinking of doing.

Well, I'm not sure that's the correct characterisation of what the Fed wants to do, but putting that aside, up until the recent period where we've had three years of being under 2%, we had as much time above the top of the medium-term target range as we've had below, so our inflation target for the last 25 years has intentionally been flexible. What we want the community to understand is that the average rate of inflation in Australia will be two-point-something. That means sometimes it's probably going to be higher than two-point-something and sometimes it will be a bit below and we're in an extended period where it's below. That doesn't mean we'd be targeting an extended period where it's above, but over time my Board wants to deliver for you an average rate of inflation that's two-point-something. And to do that, most of the time we're shooting towards the middle of the target range.

We want to be comfortably inside the target range. We're not there yet and this is one of the reasons that I was talking today about the need for lower unemployment, because if we don't have lower unemployment, then I think wage growth is going to stay low, inflation pressures are going to stay low and inflation will be around 2, when really we want to be comfortably within the 2-3% range and I don't think we're there yet. But I wouldn't be shooting for it to go over 3. It seems a long way away to be talking about inflation being above 3% in Australia.

Now, is there anybody from the floor who wants to ask a question?

Good afternoon. Thank you Dr Lowe for your important talk, and thank you for taking our questions. We just touched on this topic, earlier this month after the Reserve Bank Board left interest rates unchanged, a high profile and somewhat influential academic economist, professor Richard Holden, wrote an opinion piece in the Australian Financial Review, in which he advised readers to mark down May 7 as the day the Reserve Bank of Australia abandoned it's 2-3% inflation target regime that it'd used for a quarter of a century. I think you've just confirmed that in fact, that regime is still intact and given the Reserve Bank is still taking strong indications from its inflation targeting framework, I wonder if you'd think it was fair to say that the Reserve Bank has not only an easing bias but a red hot easing bias.

Well I won't comment on the adjective you used, but I think it's fair enough to say that we have an easing bias and I want to reassure that the inflation target remains central to our monetary policy framework. We want to deliver an average rate of inflation as I said, an average of between 2-3%. And I'm confident that we will do that, but we're realistic that it will take some time to get inflation above 2%. We think we'll get there, but it's just going to take some time. What is ultimately important is that we deliver for the community low and stable inflation. So that inflation is not something that you'll have to worry about when making your decisions about financial investment, or investing in capital, or employing people.

I think we're in that position at the moment, I don't think most of you worry, hopefully, about inflation when making your decisions. We want to get inflation back to two-point-something percent, we're not that far away either. By the end of this year, we're expecting inflation to be 2%, so that still remains the guiding principle that we use for our monetary policy decisions, but we've never been a central bank that is driven exactly by the inflation forecast. To get inflation up quickly, we want to make sure that's our North Star, and it is, and we'll gradually get there. But it is taking time, and I think we just have to accept that.

I think we've got a question over there on our left

I guess one of the areas we're seeing at the moment is an increased amount of tax compliance and data rich information from the ATO, and that's good and bad in some regards. The R&D focuses have seen some of our clients step away from that because the compliance burden is quite large. I was particularly interested in your stat of a 10% increase in tax paid by households, whilst incomes are holding fairly flat, and just curious about how you're seeing the dataset and how that's becoming more rich, and I guess, what your thoughts are on tax per household.

It's a bit hard to understand why tax paid by households has grown at almost 10% when their gross income is close to 4. One hypothesis is the tax office has got better at compliance. The changes to the rules about expenses for investment properties that the government introduced in the budget a year ago, and the electronic matching that the tax office now does, and the ability of us all to do tax online. It's less likely that we forget about income, because of the matching that's going on, so it may be that better compliance is leading us to pay the right amount of tax and that's happened over the past year and it's weighed on net income growth and we're not expecting that to be repeated again this year. But that's just a hypothesis, I don't really have strong evidence to support that though.

If we could have a microphone.

What policies do you feel could be enacted by the government that would help you hit your unemployment and inflation targets?

Well, I don't want to give the government advice, particularly in the early days, but as I was saying monetary policy can play a role, an easing of monetary policy would probably lead to a depreciation of the currency, or at least the expectation of an easing will lead to a depreciation. It would also free up the cash flow of some households, those households with debt, and it's reasonable to assume that some of that money would be spent. So I think an easing of monetary policy would help lower unemployment, and get us closer to the inflation target. But that's not the only policy option we have as a country to lower unemployment.

I've been a strong advocate of increased spending on infrastructure, not only because it helps with demand management, it adds to the supply capacity of the economy and actually makes all our lives better. I would be advising all governments, not just the federal government, state governments to make sure that they're investing in infrastructure that creates jobs and increases supply capacity. And there's a long list of structural policies that I talked about with Michael before. We're not out of options and monetary policy is not our only option, and I think it would be a mistake to rely solely on monetary policy here.

Question over here.

Is the movement from 5.0-5.2% seasonally adjusted unemployment a trend? And is it possible the next movement is still up?

Is the movement from 5 … no I don't think that's a trend. It's interesting because over most of last year, the participation rate was holding steady, it had risen quite a lot, and then it had held steady, but in the last few months the participation rate has started rising again. I'm not sure why that is. Employment growth has not slowed down at all, we're still adding on average this year almost 30 thousand people to the work force. It's a large number of people, we don't need that type of employment growth to sustain a steady unemployment rate, but the participation rate rising means the unemployment rate is lifted, even though employment growth is still strong, so in and of itself, I don't think it's a concerning trend.

Are there any media questions from the floor?… A question at the back.

My question goes to APRA's announcement of changing [unclear 12:48] assessments. How will that affect monetary policy?

I don't think it has any direct implications for monetary policy at all. It would be complementary to a monetary easing if that's what takes place. Removing the floor serviceability requirement that APRA has had, will allow some people to borrow more. But only a relatively small share of the population borrow the maximum amount that banks offer them and I think that's good. The data that we have says maybe somewhere between 10% and 15% of people borrowed the very maximum the bank will allow them. When they go to the bank, if APRA does in fact remove this floor, some people will be able to borrow more and some will take advantage of that and that will help. But that's not a substitute for lower interest rates, because lower interest rates work through the exchange rate and they affect the cash flow of every single person who has a borrowing at the moment. So it's complementary but it's not a substitute.

That was really interesting, you said that lower interest rates work through the exchange rate.

Yeah, that's how it's supposed to work.

Question over there in the back, we have a …

Sorry just a quickly on that same topic as well, we've had that announcement from APRA, the federal government's also making it easier for first time buyers to get a deposit even though they don't have enough money. Is that compatible with more responsible lending?

It's up to the banks to implement that responsibly, isn't it? I think it certainty can be, I don't see it as being inconsistent, but the banks still need to make their decisions, paying due regard to the responsible lending laws.

The Morrison government has just announced it's going to delay the introduction of its first round of tax cuts for low- and middle-income earners, there was some suggestion it was going to happen this financial year, it now looks like it's going to be delayed until next financial year. Does that change the RBA's outlook on anything?

The graph that I'd showed there on the forecast for household income growth incorporated the passing of the budget measures for the tax offsets. So you need to remember that the current offset in legislation I think is $530, and the budget included another $580 for some people. We had included that in our forecast that I showed you there on the basis that there was bipartisan support for that policy. The Prime Minister's comments this morning suggested there wouldn't be time for the parliament to reconfigure and pass that. If that does not occur and there's not some other way of getting that money to households, then household income growth will be made 0.3% lower over the course of this calendar year than I showed you in that graph. And that's moving in the wrong direction. So I think it would be good if there was a way for the households to get those tax offsets, but the timing may mean that that's difficult and it may have to wait until next year.

We have another question over there and that will have to be the last question of this session, so please what was your question?

Governor, I'm just wondering about the timing when you're talking about considering a rate cut in two weeks' time. What's changed between now and two weeks ago when a lot of economists following the inflation and the weakness they saw in the economy, were expecting the central bank to go in May. Was it just an opportunity to then communicate through a speech, was it to wait for perhaps a bit of an unruly election to get out of the way, or has something else changed?

The election had no role at all in our monetary policy decisions. We focus on what we think is the right decision and we implement that regardless of the political situation. What's changed, there's no dramatic change, but over time, really over the course of this year, we've been gradually and progressively reassessing what level of unemployment is compatible with the inflation target. And as the evidence has accumulated, it seems to be more likely that that number is below 5% and the data that we've had since the last Board meeting are consistent with that and reconfirmed this sense that wage growth at the current rate of unemployment isn't really picking up substantially.

I mean wage growth is still running a bit less than two-and-a-half percent and as I said in my remarks, in New South Wales where the unemployment rate recently has been down in the fours, wage growth was only 2.5%. So, the evidence keeps on accumulating that we can sustain a lower rate of unemployment and not have inflation concern, and the recent labour market indicators have softened a little so I don't think we're going to make progress on unemployment over this year. It's probably going to steady at best case and we actually can and should have a lower unemployment rate, and monetary policy can play a role. It's a progressive reassessment and then the data is reinforcing that reassessment and the labour market data in the last two weeks suggests we can have lower unemployment and at some point either monetary policy, or some other policy, can help us get there.

Thank you very much for those questions.