Most Australians are too young to remember, or have forgotten, that before the 1980s, inflation was not managed through Reserve Bank interest rates. Treasury used the budget and tax system to influence demand: when demand ran too strongly, income tax rates could rise by a couple of percentage points; when it weakened, they could fall.
How the responsibility shifted
When that system changed, the case for independent decision-making sounded reasonable. The political appeal was equally clear: public annoyance shifted from the Treasurer and the government to the RBA Governor, sparing governments some tough decisions.
As I remember it, inflation control moved to an independent central bank partly because politicians resisted raising taxes at election time and could point to an independent RBA as the cause of the pain. It suited governments of both persuasions. Issues at that time seemed to have a simplicity that is missing today, and the fixes made sense even if their application was grossly unpalatable. It is fair to compare the impact of monetary policy in the summer of 1990 with that of COVID. The consequences were an experience never forgotten. Could it be that Australians had a different set of expectations, possibly more forgiving?
As Ross Gittins (SMH 7/10/26) pointed out that policy did not require abandoning tax-based demand management. An independent authority could also have set a temporary tax surcharge or discount. Ross raises a valid point as to whether inflation could be managed by a one organisation exercising one policy. Thinking at that time was inflation was less a symptom of economic imbalance but a cause and could be dealt with swiftly and firmly by a single action that suppressed economic activity. As the cost of labour was the key ingredient to higher prices, unemployment was a success measure.
At the time, it struck me that we were replacing a firm tool, one that tackled excess demand directly, with something closer to stick puppetry – where you hit mortgage holders and, in the process, you impacted demand. The outcome in 1990 was a deep recession, the last we have experienced.
Times were different then, more households had mortgages and demand was the problem. I wonder was my thinking in 1990 more relevant to today where the economy is significantly different does a more affluent, externally integrated economy require a different approach. Does the ownership of debt change the effectiveness of monetary policy?
Who interest rates really affect.
Reading Ross’s article last week (SMH 7/10/26) prompted me to think and ask why we are not having this discussion?
Higher interest rates don’t repair broken globally integrated supply chains. They have limited influence on higher-income and older households that can keep spending, and little effect on many business decisions; borrowing costs are only one factor in investment decisions.
For younger and less wealthy households with mortgages, however, the effect is immediate: repayments rise, budgets tighten and stress grows. Older and wealthier Australians with savings may gain from higher returns. The burden therefore falls unevenly. It makes little sense to use such an indiscriminate, thuggish tool against price and asset increases and where inflationary pressured come from different directions, especially when the side effects, including wage pressure and damage to government budgets, can rival the original problem. This time, those consequences are pushing us in an even more damaging economic and political direction, fuelled by a bizarre, loose-with-the-truth debate blaming migrants for inflation and the higher price of groceries.
How does this single-policy approach work in a world increasingly shaped by artificial intelligence, where machines perform much of the work once done by labour? In an ageing and affluent society, is it fair, or even viable, for a relatively small proportion of households, namely those carrying mortgage debt, to bear so much of the burden of controlling inflation?
Don’t expect the Reserve Bank to surrender its central role. That decision must come from the federal government. The Coalition and Labor disagree on plenty, but both seem to find this chalice too hot to hold.
So, the monthly charade continues: the RBA Governor speaks earnestly, acknowledges the pain, then reaches again for the interest-rate mallet and strikes those least able to absorb the blow. The policy intensifies household stress while barely touching inflation’s causes.
We need leading academic economists to propose light, nimble interventions that spread the burden more fairly and do not crush the human spirit. Independent thinkers who understand the labyrinth of economic policy should show how it can work in a world vastly different from the 1990s.
We gain little from relitigating decisions made in the 1980s and 1990s. Many helped transform a shy, sheltered country into an innovative, interesting nation that punches above its weight, yet still drags its feet when modernising its institutions and policy tools.
The latest rate rise
The fourth interest-rate rise of the year, lifting the cash rate to 4.6 per cent, plainly hurts mortgage holders. It is the highest rate since 2011, with another rise possible before Christmas.
In theory, rate changes alter borrowing and spending across the economy. In practice, the impact is lopsided.
Australia’s reliance on interest rates also differs from many other countries. I am not saying they are right and we are wrong. My point is simpler: as the nation changes, innovates and grows, its policy tools, especially those used to manage inflation, should evolve too.