Recent Developments

In a special meeting convened to consider options for policy responses to the effects of the novel coronavirus disease (COVID-19), members commenced their discussion with a review of recent developments. The outbreak was noted as first and foremost a public health issue. Many countries were shutting their borders and placing restrictions on and individuals to slow the spread of COVID-19. This was causing very significant disruption to economies around the world.

Financial markets had been very volatile and there had been sharp falls in the of risky assets as market participants struggled to price the risks, given their unprecedented nature. Equity [i.e. ] prices in the advanced economies, including in Australia, had fallen by around 30 per cent. The falls had been broadly based across sectors, although equity prices in the energy and t sectors had fallen particularly sharply.

…In foreign markets…members observed that the dollar had against the US dollar by around 10 per cent over the preceding month, to be at its lowest level since 2002. Among other advanced economies, the exchange rates of commodity such as Norway, Canada and New Zealand had also depreciated notably.

…A number of major central had made sizable interest rate reductions at unscheduled meetings. The Federal Reserve had cut its policy rate by 100 basis after an earlier cut of 50 basis points. The Federal Reserve, the Bank of England and the Reserve Bank of New Zealand had each lowered policy rates to ¼ per cent, and were lower than this in Japan and Europe. ...To support Australian financial , the Bank had injected [i.e. supply of money/cash] through its open market operations, increasing Exchange Settlement (ES) balances from around $2.5 billion to $14 billion. [In simple terms, the RBA reduced rates in the economy.]

…Members discussed how these developments and the rapidly changing situation were affecting the outlook for activity. The immediate outlook for the Australian and global economies was highly uncertain, but members viewed it as very likely that most countries would experience a very sharp in economic activity. …While it was not possible to provide an updated set of forecasts for the economy given the fluidity of the situation, it was likely that Australia would experience a very material contraction in economic activity, which would spread across the March and June quarters and potentially longer [which effectively means that the Australian economy will experience a if the contraction lasts for at least two consecutive quarters]. The size of the fall in economic activity would depend on the extent of the social distancing requirements, and potential lockdowns, put in place to contain the virus. The composition of was changing considerably, with spending at supermarkets and pharmacies increasing substantially, while spending on hospitality and other services [such as tm] was falling sharply. Many industries were being severely disrupted, with significant spillovers across the economy.

There were likely to be significant losses over the months ahead, although the extent of this would depend on the capacity of businesses to retain during this period. At the same time, some industries were employing more workers, particularly those involved in the retail chain and delivering goods. In time, following containment of COVID-19, the economy is expected to recover, but the timing of this was uncertain.

Considerations for Monetary Policy

…Members acknowledged that the primary response to the COVID-19 outbreak was to manage people's health, but that other arms of policy, including monetary and [or budgetary] policy, would play an important role in reducing the economic and financial disruption. Members noted the measures that the Bank had taken to support the Australian economy and operation of markets over the days preceding the meeting.

The Governor proposed a package of policy measures, which together would assist in supporting the Australian economy through the period ahead. The focus of the package was on ensuring that funding costs [e.g. the cost of /interest ]were low across the entire economy and that remained available to businesses and . This would help build the necessary bridge to the economic and support that recovery once the COVID-19 outbreak is contained.

The elements of the package were discussed in turn. [One of which is] ...the further reduction in the cash rate target to 0.25 per cent.The proposed cut in the cash rate to 0.25 per cent would bring the cumulative decline over the preceding year to 1¼ points. Members noted that this would be a substantial easing of policy [i.e. a policy induced reduction in interest rates], which, to date, had been boosting the flow of businesses and the household sector as a whole and also helping -exposed industries [i.e. providing a boost to net ] through the rate channel. Members acknowledged that very low rates have uneven effects and negative consequences for some people – especially those relying on interest [e.g. with funds invested in the banking system] – but the evidence was that lower interest rates were benefiting the community as a whole.[In other words, the benefits of lower interest rates to across the economy outweighed the of interest rates faced by , such as many retirees with bank deposits who are effectively lenders to banks.]

Members supported the proposal and agreed that the cash would not be increased from its lower level until progress is made towards employment and there is confidence that will be sustainably within the 2–3 per target cent range. Given this, it was considered likely that the cash rate would remain at a very low level for an extended period. Members also agreed that the cash rate was now at its effective lower bound. Members had no appetite for interest rates in Australia.

Extension: questions for consideration

1. Explain why share prices in the energy and tourism sectors fell more steeply than other share prices.
2. Explain why the exchange rates for commodity exporting countries, including Australia, have depreciated since the outbreak of the coronavirus.
3. Explain why central banks (including the RBA) has decided to reduce interest rates.
4. Examine the implications for the exchange rate once interest rates fall in Australia.
5. Explain whether ‘a very sharp contraction in economic activity’ or a ‘very material contraction in economic activity’ will be equivalent to a ‘recession’ in the Australian context.
6. Describe how the ‘composition of consumption’ is changing and examine the implications for relative prices and resource allocation. Use demand and supply diagrams to illustrate.
7. Explain how the decline in economic activity will be related to hours employed, employment and unemployment.
8. Since this RBA meeting, the Federal Government announced a $130 billion wage subsidy for employers. Explain how this is expected to influence the rate of unemployment.
9. Describe the ‘substantial easing of monetary policy’ undertaken by the RBA and explain how it might help to boost Consumption and net exports.
10. Outline how lower interest rates negatively impact on some groups within society and explain why this negative impact is likely to be outweighed by the beneficial impact on other groups.
11. Define ‘full employment’ and explain what is meant by the statement that ‘the cash rate would not be increased from its lower level until progress is made towards full employment’.
12. Explain why the RBA is not interested in further reducing the cash rate.