Be wary of rash stimulus

The remarkable thing about the December quarter national accounts is that despite all the focus on particular areas of weakness in the economy during 2019, it managed to end up with growth of 0.5% or 0.6% each quarter for an annual total of 2.2%.

Taking a short-term view — while 2.2% annual growth (and 0.7% in per capita terms) is nothing to crow about — it’s far from recession territory, and the economy entered 2020 with some momentum.

That is all in the rear view mirror. We now know that the bushfires and coronavirus (or COVID-19) impacts will detract from that momentum, though the extent and duration are highly speculative at this stage. The question for policymakers is, what can and should macro policy do to offset those negative impacts?

In the spirit of ‘don’t just stand there, so something’, the Reserve Bank has acted swiftly with its 25 basis points cash rate cut. This will do no harm in the short-term — but also little good.

A cut in rates will do very little to relieve fear and uncertainty about COVID-19 or the supply chain problems it has created. Rates were already so low that they were not a hindrance to anyone wanting to spend or invest; and the cut may inflate asset prices (particularly house prices) further.

Meanwhile, whenever the coronavirus scare subsides, the RBA will be slow to reverse course or will not do so at all, and the economy will be dealing with the damage wrought by interest rates even closer to zero than they already were.

The bigger issue is whether the government should inject a discretionary fiscal stimulus; for example, something of the kind (but not the magnitude) of the Rudd government’s fiscal response to the global financial crisis.

The answer, at least at this stage, should be a resounding ‘no’. The scale of COVID-19 and its economic implications are far too speculative.

Above all, policymakers should not act simply to be seen to be doing something. With that motive, the story always ends badly.

This is an edited extract of an opinion piece published in the Australian Financial Review as There’s no call for pink batts version 2020