November 10, 2003 | Graham

Rate rise suggests federal election might be earlier rather than later.

I know that this isn’t the common view (and it is certainly not the view of On Line Opinion’s newest – and only – virtual columnist Henry Thornton for whose persona and creators I have the greatest of respect) but John Howard ought to be pummeling Ian MacFarlane for raising interest rates. There was no need and it will make things worse for Howard at the end of next year at just the time when he was going to an election.
Rates should hardly ever be raised to kill off an isolated boom. The current real estate boom is partly a result of a more or less rational response to cheaper interest rates combined with competition for properties – more buyers per property plus increased servicing capacity equals higher prices. Increases in prices lead to expectations of further increases and the herd is off.
Historically, central bankers in Australia first try to talk the market down. Then when that doesn’t work, they put interest rates up. The problem is that by the time they have put interest rates up they have lost a certain amount of credibility with the herd because while they were spruiking one thing, the market was doing the opposite. So speculators ignore the interest rate signal at first. In fact, it is a moot point whether interest rates really do kill off most real estate markets, or whether they die because the players (or their bankers) realise, faced with a lack of new tenants and buyers, that supply exceeds demand. That, and the reality that the higher rates end up euthanasing the entire economy rather than just lancing the specific boil.
Certainly my straws in the wind suggest that there are no capacity constraints in the economy which signal widespread inflation. And with a floating dollar and low trade barriers, it is not so easy to cavalierly increase domestic prices, even in the white-collar industries. I was talking to a civil engineer the other day who tells me that a number of firms in his industry have their drafting done overnight in Indonesia – email the specs at 5:00 p.m. one day and collect the drawings from your email in-tray at 9:00 a.m. the next. The innovation of the Internet means that in a lot of areas that previously had natural barriers to entry Australia can actually tap into parts of the world where capacity utilization is a lot lower than here, which anti-inflationary for us.
The problem for Howard is this. On past history rates will take at least a year to have an effect on the housing industry. When they do, they will have an effect on everything. Ian MacFarlane has to keep ramping interest rates up until housing (and the economy) slows, or he will have even less credibility with the herd than he does now. So somewhere about September or October next year the hangovers will be starting to come out and woe-betide anyone running to an election. John Howard’s not a mug. If the real estate market is still roaring by March next year, expect an election while the party is still on. That way Howard can claim that higher interest rates are a sign of his success with the economy, and voters will believe him.

Posted by Graham at 11:40 am | Comments Off on Rate rise suggests federal election might be earlier rather than later. |
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