The RBA, in their infinite wisdom, are telling indebted households to stop borrowing. Apparently the 0.25% rate cut was just for wealthy Australians. Not only does the RBA set the benchmark for how much it costs to borrow, they’re now acting as your financial advisor too.
But the RBA are in no position to tell households how to finance spending habits. If they wanted people to borrow less, they shouldn’t be lowering rates. Instead, the RBA is sending mixed messages. They’re warning indebted households against further borrowing, but this flies in the face of their desire to see businesses increase spending.
When they cut rates to 2% earlier this month, many households saw it as a good thing. More people borrow money when rates are lower because it’s cheaper to do so. For one, it makes financing mortgage repayments easier.
That frees up disposable income for spending on other goods. Even if it leads to rising personal debt, it achieves the RBA’s aim of stimulating the economy.
The RBA know this. That’s what interest rates do. Whether intentional or not, they shape the behaviour of consumers across the entire economy. That’s the reason the RBA lower them in the first place — to get people and businesses spending. After all, the consumer doesn’t set how much it costs to borrow. They only borrow in reaction to RBA’s policies. And it’s these policies which are driving up household debt.
The RBA is also to blame for high household debt levels
RBA deputy governor Phil Lowe said that it’s not in Australia’s interests to engineer a consumption boom with debt.
Household debt in Australia was $1.84 trillion at the start of 2014. In other words, the average Australian owes roughly $79,000 each.
But the RBA have a direct say in the level of household debt through their policies. Interest rates were as high as 6–7% in 2007.
The recent spate of rate cuts has only resulted in more borrowing. Consumers responded to this by taking on more debt to finance spending on everything from homes to cars. But they couldn’t have done this as freely if the RBA didn’t lower rates.
The RBA wants business and consumer spending to steer the economy away from its dependence on mining. In order to do this, businesses will need to increase capital expenditure.
But businesses are waiting to see if there is a sustained pick-up in consumer demand before ramping up investment. The only way consumer demand will increase is if people begin financing spending through debt.
The RBA can’t have their cake and eat it too. They wanted to spur household spending. And they knew that it’d risk raising household debt levels. Despite Mr Lowe’s pleas, Australia faces a long term prospect of ever increasing household debt. .
The Daily Reckoning Editor Greg Canavan knows how important net debt levels are to economic prosperity. Household debt is at $1.8 trillion. Government debt is currently over $300 billion. The mounting levels of debt have left Aussie households with a lower net worth compared to 2008. In a free report, ‘Australian Recession 2015: Unavoidable’ Greg reveals why this crushing debt points to a certain recession this year. Greg charts how household debt levels actually rose during the mining boom over the past decade. That’s because household wealth has decreased, while liabilities have increased.
Greg doesn’t believe anything the RBA does will be enough to prevent the economy sliding into recession. But there are ways you can protect your wealth from the imminent fallout. To find out how to download his free report right now, click here.
Contributor, The Daily Reckoning