Saturday, July 14, 2012

The RBA is not the Fed, thank goodness

This is based on a comment I made here.

At the Bubbles and Busts blog, there is a post criticising Marcus Nunes' post positively contrasting Australia's economic performance over New Zealand for failing to deal with Australian economist Steve Keen's warnings over the Australian housing bubbles and their debt-deflation implications.

That impending crunch is a long time coming. I agree completely that Australian housing prices are a series of bubbles and that many Australian households are highly leveraged on bureaucratic approval. But the air was out of the various American housing bubbles before the Global Financial Crisis or Great Recession hit. The former was a result of (1) some bizarre evolution in financial instruments, (2) poor prudential regulation, (3) a pattern of the destruction of prudence by intervention and the (4) US Fed deciding to go with specific credit management (pdf) rather than general liquidity support. It then proceeded to (5) disinflate by "passively" tightening monetary policy in what Matt Yglesias rightfully calls a massive failure in monetary policy while (6) entirely fail to anchor income expectations (giving it what I have called unbalanced credibility).

In the case of Australia, (1) does not apply anywhere to the same degree (2) is likely rather better (but as yet not seriously tested by a domestic crisis rather than an imported one) (3) does not really apply (4) is not something the Reserve Bank of Australia (RBA) is likely to do, (5) it won't do and (6) it does the reverse.

Like Keen, I admire Fisher's Debt-Deflation analysis (pdf) of the Great Depression. But that analysis was in the situation of massive deflation imposed on the goldzone by the Bank of France abetted by (pdf) the US Federal Reserve. You need seriously destructive monetary policy to get the effect.

Yes, it will be ugly when the bubbles burst but better monetary policy than the Fed managed will make things a lot less ugly in Australia when and if the housing bubbles burst (rather than subsiding).


  1. Lorenzo,
    Thanks for the reply and thoughtful comments. I completely agree that the Fed was far too passive in reacting to the housing bust and the ensuing liquidity crisis. However, I don't believe the Fed was/is equipped to deal with the solvency issues that arose in the financial sector or the private sector deleveraging. If the RBA is more proactive, which still seems open to question, then I agree the fall in NGDP and subsequent stagnation will likely not be as bad as the US. That outcome, while better, still leaves a lot to be desired with regards to central banks maintaining a consistent rise in NGDP.

  2. Apparently the RBA is back to being hawkish ( Still certain they will prove wiser than the Fed/ECB?

    1. People are reading a bit too much into that. The RBA minutes show a concern for the level of activity as something to be supported, not merely as impacting on inflation. Puts them ahead of the Fed and ECB still.