Are Interest Rates the most equitable and effective way to suppress inflation?
The increase in money supply created to boost and maintain activity over the tumultuous Covid 19 pandemic period is now having its inevitable consequences with rising inflation globally, not just in Australia.
The Reserve Bank and government’s response is to raise interest rates resulting in higher borrowing costs and consequently a lesser demand for goods and services. But is increasing interest rates the only way to rein-in rampant inflation - and is it fairly targeted?
So is the manipulation of interest rates to fight inflation fair and equitable?
Many would argue that it is not, in that those most adversely affected are those with high net debt (largely younger people who are often recent home buyers with significant mortgages) and those positively affected are those with cash available to place on term deposit (often baby boomers) . Australia, having a taxation regime that allows for negative gearing of investment properties, capital gains tax relief and now escalating interest rates, is at risk of a continued and increasing “Generational Wealth Gap” between the younger and the older.
Is manipulating interest rates an effective way to suppress inflation?
Many would also argue that it is not very effective, in that it impacts only a portion of the community and many of the inflationary drivers (e.g. energy prices flowing through to food prices) are driven by global factors and hence aren’t impacted.
Are there alternative actions that could be taken / levers that can be adjusted?
Increasing interest rates are designed to decrease the demand within the economy via , effectively, decreasing money available to be spent . An alternative or complementary approach might be to consider a variable component of Superannuation Contributions. In effect, this would mean that a portion of individual earnings would be adjusted to affect money supply within the community. In inflationary times, when demand is to be curtailed, that proportion would go up. In recessionary times, when demand is to be boosted, it would go down. As an example, standard Super Contributions may sit at 10.5%, with an additional maximum 3% adjusted up or down as appropriate to the state of the economy.
Why would this approach be fairer and more efficient?
It would have a proportionately fairer impact across a broader section of the community.
The Superannuation Contributions would remain an asset of the individual. In essence, it is still your money but you just can't spend it now (as opposed to contributing to the banks’ super profits).
Note - This approach would have to operate as a “salary sacrifice” of salary and wage earners employment income to be effective, as opposed to an additional impost on the employer to increase contributions.
