A material fall in housing prices in response to higher interest rates could result in heavily indebted households falling into negative equity.
Unprecedented fiscal stimulus and monetary accommodation is no panacea for these deficiencies. As this realisation has dawned, market economists have rushed to downgrade their 2022 and 2023 economic growth forecasts for the US, UK, Eurozone, Japan and China. But not for Australia – well, not yet.
Any overconfidence in their ability to simultaneously bring inflation to heel risks compounding their first error with a second by weakening growth too much. This could cause a recession or worse, stagflation. Our historical good fortune was that we patched over these challenges with population growth and bouts of unexpected resource price strength. We seem to be hoping in coming years to again be the “lucky country”.
And now a reckoning has come. Like other central banks, the RBA will seek to raise interest rates to tame inflation, but it is flying blind in terms of the impact its action will have in the current economic environment given its last experience with a tightening cycle was a decade ago.This suggests that a gradualist approach is required, with less aggressive tightening than many economists and financial markets now expect.
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