A budget squeeze could be on the cards next week, after the Reserve Bank of Australia’s decision this week to cut interest rates to a record 2.75% low.
“The interest rate cut reflects a belated recognition by the Reserve Bank of a need to address the strangulating effect of the high Australian dollar on the economy,” Professor Makin, who is based at Griffith University’s Gold Coast campus, said.
“However, whether a 0.25 % interest rate cut is sufficient for this purpose is doubtful.”
Professor Makin is an expert in monetary and fiscal policy at Griffith’s Department of Accounting, Finance and Economics.
“The strong exchange rate, well above its long-term average of recent decades, continues to depress activity in the tradeable sector of the economy, notably manufacturing, tourism, and parts of agriculture.
“It reflects three fundamental forces. One is the massive increase in money supplies abroad, particularly supplies of US dollars and Japanese yen, resulting from ‘quantitative easing’ (money printing) measures engineered by foreign central banks.
“Another is still elevated international commodity prices received for Australia’s exports.
“The third major influence is the increased volume of Australian government debt which has grown significantly in recent years due to sizeable budget deficits.
“This government debt pays relatively attractive interest rates from international investors’ perspective, and hence induces significant capital inflow from abroad which keeps the dollar high.
“Tighter fiscal policy in next week’s federal budget will therefore also be necessary to curb the growth in public debt which is keeping the Australian dollar above its fundamental value.”