The use of rates is such a blunt way to go about controlling monetary outcomes. What about the control of credit. The RBA has allowed credit to grow at very high rates for a long time now surely it is time to stop the speculative lending and reign in credit control using this method. That way they will not hurt the average person with higher rates but will merely restrict the level of borrowing. For example making sure that people who want to buy a property have a healthy deposit rather than no deposit or these ridiculous 48 months to pay arrangements we see at retailers or tighter control of credit cards. All of these would be more sensible and preferable to using rates as the big stick to bash us with.

Daniel, I think if the RBA induced a credit-crunch by reducing debt-growth to (for example) 'sustainable' levels, the result would show this to be a much blunter instrument than simply raising interest rates.
Consider this - the aggregate Australian household income is around $440 billion per annum. Wages are currently growing slightly faster than the 20-odd year average of 4.1% - so will perhaps increase by $20 billion this year.
So, if additional credit were doled out at $20 billion per annum, what would happen? If the entire wad were spent on housing, it would mean either:
a) The average new home loan would fall to $33,000 assuming turnover remains at current sluggish levels of 600k - implying an average house price below $50,000.
b) The average new home loan would remain at $221,000, but turnover would fall to 90k per annum. Meaning effectively, that it would be next to impossible to sell a house.

I think that you do not need to place an artificial limit on this as you have done of say $20B linked to wages growth. The RBA must have some idea of the amount of credit that they want to create. Obviously this figure is less than in the preceding period hence the rate rise. So that just loan at that amount at a natural rate of interest and leave it at that. The problem with loaning out to much money is that the rate of credit grows fastr than the increase in goods and services (read some articles about classic Austrian economics). They create the money out of no where using fractional reserve banking which is the real root cause of the problem. Also you analysis does not take into account the potential use of our savings to sustain current prices and perhaps some more policy to help people to increase their savings rather than just letting them borrow for current consumption. Plus looking at housing we are experiencing an asset price bubble, prices are ridiculous and out of control so a reduction bringing the prices back into line with affordability would be a good thing in the long term.

Daniel, I agree with everything you have written. I don't even deny that causing a quick, severe correction in house prices (rather than a multi-decade period of stagnant or slowly falling prices) would be in the best interests of our economic future. I just think that your conclusion is debatable.

In particular, I think it's important to keep in mind the relationship between tighter monetary policy and higher international exchange rates. I believe this will be the most influential factor for Mr. Stevens & Co. in the near future. Their motivation for raising interest rates will not be to lower demand locally and force producers to cut prices (thanks to globalisation this just won't work - our demand for imported goods and oil are insignificant on a world scale), it will simply be to maintain our dollar value in a world of rising international interest rates. The alternative is massive imported inflation.

As a healthy side-effect, it will make traditional wealth-creation strategies such as spending less than you earn and saving the difference more attractive than borrowing to the hilt and speculating on unproductive assets (houses mainly but also art, diamonds, classic cars etc) inflating faster than the cost of borrowing.

Oh I get it now.

The economically educated folk, writing in a dead mans name, now understand that Howard's government is not that good at managing the economy. They diddle at the edges of something they simply don't understand, like two year olds playing with the TV remote. (Sometimes it gets the desired results but whichever way the TV is still there and something, or something will make it work eventually.)

What a laugh.

There are many other economic tools available , some as suggested above, rather than let interest rates ramp up and inflation play the catch up.

The problem is that Howard and co are so arrogant they think they are superiour beings and anything they choose to do must be inherently 'right'.

Clearly you are unfamiliar with 'Henry's' back catalogue of calls for higher interest rates, disincentives for unproductive 'investment' etc. He/they have been warning of the dire consequences of the irresponsibly loose monetary policy of the last few years for… well, the last few years.

"There are many other economic tools available, some as suggested above, rather than let interest rates ramp up and inflation play the catch up."
I don't understand the concept of "inflation play[ing] the catch up". However, can you identify an economic tool (other than interest rates) the government or RBA can employ to support the AU$ in an environment of globally rising interest rates?

As for the other economic tools available, I can only repeat the title of the article - Too Little, Too Late. It really is. Preventing our massive debt-bubble from inflating in the first place would have been a very good thing. Intervening now to force it to pop might be the most responsible way out of our pickle, but there would be blood on the streets. What would 'Mum & Dad' prefer - an extra $50pcm in mortgage costs on their $300k house, or for that house to suddenly be worth $150k?

To change stances slightly, I think the only politically palatable way out is to encourage inflation. Not just here, but in the US and Britain also. The central bankers can massage the inflation figures down and raise interest rates more slowly than they need to. They'll promote themselves as inflation fighters. Meanwhile the government(s) will blame the rising costs of living on external forces - demand for oil and minerals from Asia etc.

The common man will complain about rising costs, but manage to survive thanks to wage increases. All illusions of course. The only reality is that debt levels, relative to incomes (household, governmental and national) will fall. Eventually we'll reach a point where our debt has become manageable, and our assets reasonably priced relative to incomes, then of course we'll start the whole stupid cycle over again.

Well said Foundation. You have pretty much hit the nail on the head. We are caught in a ridiculous cycle like mice racing around a treadmill. The average person cannot see the wood for the trees and cannot exercise the patience to build there wealth through non-specultive methods such as savings, working hard/intelligently and hence don't get angry enough about the stupid way that the economy is currently manipulated.

However there is a way to end it all in one fowl swoop and that is to cancel the system we are using now (one based on credit expansion from fractional reserve banking) and replace it with another system (when this cancellation takes place all savings and asset prices would be adjusted to take account of the change). It would take a brave soul to raise this sort of idea in public though. The "educated" economic academics and their students (the very ones who cannot control, model or predict the economy or explain the true nature of money) would shout it down with their puppet like chorus.

It is good to see there are at least a few of us who are taking a critical look at the current system and situation.

foundation,
there are other tools such as tightening the money market.

For example,by legislating responsible credit availability some people will be knocked back on their 48 month 'interest free' purchases.

I am a little worried about your call for higher inflation. As the average grocery shopper will tell you, the cost of food is spiralling, and not just bananas. However, farmers will tell you that they are not getting more for their primary produce.

I suspect that the inflation genie has been let out of the bottle, with JH approval, and the system of calculating CPI is skewed to hide it.

You also mentioned higher wages.
What of the IR laws that were designed to drag wages down? (Amanda Vanstone told us so) The folk writing for a dead bloke reckon this is a good thing (earlier articles).

So if interest goes up, prices go up and wages go down, the ma and pa that you refer to will not be able to rent their repossesed house.

If the average people have no money it stands to reason that those who seek to exploit the markets will also suffer. The feudal overlords can afford to ride out the storm.

Just a reminder that Aus does not always follow overseas trends, for when Japan had Zero interest rates Australia did not follow.

I find it interesting to read the comments about wages increasing as being the saviour of the ordinary man, despite the hardships that rising rates will place on him, thanks to his take on of additional debt to try to get ahead. Whilst income increases are common in the world of investment banking, take some time to think of the situation of the many that fall into the category of unskilled labour (whether or not they are truly unskilled is a matter for another debate). For example, a relative of mine who is a tractor driver and general farm hand. He makes $16/hour - around $31-32k a year. 10 years ago when he started in the industry, he was paid $15/hour. Food was cheaper, power was cheaper, rents were certainly cheaper and water was generally free. His major concern is that beer was a lot cheaper and fuel prices to get to and from work in an area that has no public transport were then quite reasonable (although they still took up a sizeable chunk of the weekly budget). Now he makes $16/hour (which is not bad considering that the award wage is more like $13/hour) and it costs him around $20/hour to live (mind you this is not extravagent living - mortgage payments are only $150/week). Wages are not keeping pace with the costs of living for everyone. Realise that for some people, even small rate rises can spell doom. This particular farmhand is one of the lucky ones - despite his depressed income, he married a professional, who keeps the beer in the fridge and throws in the extra $4/hour and then some. Some of the others are not so lucky.

the recent ir legislation seems a little superflous when you can simply employ inflation to 'grease the wheels' of the labour market and lower the real wage rate.

part of the recent rate rises can be attributed to the may budget, any complaints about a reduction in marginal tax rates?

to manage inflation and unemployment is a juggling act. unfortunately you have to decide, one or the other.

however, in an extreme case - stagflation - you can enjoy both at the same time. higher prices and higher unemployment. if some highly publicised rate rises and a tough talking central bank can head off a supply side shock caused by inflated commodity prices and inflation speculation then yes, it is painful but necessary to avoid an increase in the price level combined with an increase in unemployment.

oh, and the price of oil - it's true, strong underlying demand but also note that 90% of the world supply is controlled by capital starved, national oil companies, reluctant to invest in capital to increase supply.

I seem to be missing the point of the last posts wrt the article. I thought the main thrust of the article was about rates being raised to late to stave off inflation. My point was that I think that changing rates to control inflation is not the best way to achieve the desired outcome and that inflation is linked directly to the lose credit creation policies of the central banks who just create additional money supply in a willy nilly manner. If they created credit for constructive purposes only and in turn reduced the creation of speculative credit (such as the 48month interest free, our huge splurging on credit cards) they could achieve the same outcome without having to raise rates, or at least limit the required rate rise.

Wages can and are set by a combination of market forces and legislation and they do react to inflation but it is not the focal point of this article and they effect inflation and in turn the real purchasing power of wages is effected by inflation (what a great viscious cycle to be caught in).

48 months interest free isn't credit creation. it doesn't increase the money supply. when you go to harvey norman and purchase a plasma for $4000 on interest free. no one banks $4000. it's simply a deferred payment. credit cards aren't money, they too are simply deferred payment where your bank agrees to make the payment for you until the end of the month when you pay it back etc.

the rba increases the money base only, which is but a fraction of our total money supply. banks are the actual components in the equation that 'create money' out of nothing through a multiplier process.

now i think it's apra or the rba who controls the bank's reserve ratio. so instead of money market operations to increase the interest rate they could raise these reserve rates which would limit the amount banks can lend. however, with demand greater than supply (as in any case - oil's a good example) the price level of that good, in this case money (loans) goes up. and in this case the price of money is the interest.