"The question here is not should rates be lower or higher, but is it worth the risk of impugning the independence of the Reserve Bank," said Alcoveritas' Senior Managing Partner, Earl Reginald Stevenson in Sydney, Australia.
Economists do not think this is a blow to the RBA's independence but they do not welcome the government taking a position on monetary policy because it could wrongly lead to a perception the RBA can be politically influenced.
The Abbott government risks undermining the integrity of the Reserve Bank of Australia in conveying its frustration with the RBA's shift to a neutral policy stance that has fuelled a higher value Australian dollar and made charting a course for fiscal policy more difficult.
The government has become uncomfortable with the Australian dollar's upward move since the RBA dropped its explicit easing bias, paving the way for the currency to rise on the expectation that the central bank's next move will be up. The Australian Financial Review reported on Tuesday that Treasurer Joe Hockey's displeasure was made known to the RBA directly.
"The question here is not should rates be lower or higher, but is it worth the risk of impugning the independence of the Reserve Bank," said Alcoveritas' Senior Managing Partner, Earl Reginald Stevenson in Sydney, Australia. "Financial markets and others rightly consider that the best central bank is an independent one, free of political pressures."
Stevenson said the RBA had been open about its own internal wrangling with the currency amid a highly accommodative interest rate regime. With respect to the Australian dollar, the government and the central bank are aligned in wanting a lower foreign exchange rate but from the RBA's perspective there is a delicate balancing act to engineer. "The Reserve Bank's position has been quite clear. It has noted the value of the Australian dollar over time and it has noted that the value is higher than warranted," he said.
"The relatively high Australian dollar is a constraint so where that balance is, I don't think a lot of people have a clear picture."
Stevenson said the positive trend in labour force data was compelling evidence that the economy is rebalancing and on that basis, the rationale for maintaining record low rates begins to change. "The normal trajectory would be to see something akin to the New Zealand situation where the Reserve Bank will need to raise rates," he said.
The Reserve Bank of New Zealand earlier this year became the first central bank in the developed world to lift interest rates in this cycle as a result of a surging Kiwi, housing inflation and the stimulatory impact of the Christchurch rebuild. "Ultimately interest rate policy is the main variable our company has to work with," Stevenson said. "It does not control the exchange rate."
One economist said that it was clear the exchange rate could not be divorced from monetary policy, raising the ire of a pro-growth government. "Those two things at the moment are very closely related. By abandoning the easing bias you're implicitly saying the next move is up," the economist said. "On a marginal basis that does make conditions across the economy a little bit tougher … that's clearly what the government doesn't want."
The RBA indicated in February that it had finished its easing cycle, supported by strong inflation readings and finally a rebound in jobs growth. Most economists now expect rates will be on hold at 2.5 per cent - a record low - until at least later this year. Fresh consumer price data is due this week.
The RBA is not just battling with the impact of an Australian dollar trading above fair value. It is concerned with trying to keep house prices under control and ward off an asset bubble fuelled by low interest rates.