Question

Interest rates in Australia are currently at their lowest level since the Reserve Bank of Australia was established in 1959. Outline the rationale for such low interest rates, and evaluate the extent to which this policy makes sense in Australia's current situation. Make sure to take into account both the dangers of keeping interest rates low for protracted periods of time, as well as the potential benefits of such an approach to monetary policy. In the light of your evaluation, would you recommend a continuation of the Reserve Bank's low interest rate policy, or some alternative course of action? Be specific about the main features of any alternative you recommend.

 

Answer 1

The Reserve Bank of Australia has indeed kept interest rates low for a reason. The recent Corona Virus Pandemic has meant that the aggregate demand which is also known as the total demand for goods and services in the economy has gone down drastically. As a result, many people across the globe, fear the loss of jobs. Tourism which is a major source of revenue for the country has gone down the drain past one and a half quarters and economists fear that this may further go down as people would not want to travel to other countries during this critical time.

The reason why, Interest Rates have been lowered is to maintain enough cash flow with the banking sector to give out as loans to business owners and to make sure that the aggregate demand does not decrease so much that the unemployment levels go unchecked.

In the country, small business owners and companies are stressed about the lack of demand and accordingly are limiting the size of their operations and are taking corrective measures such as employee reduction and not expanding their business which needs to be reversed.

The end result I believe is that the same Monetary Policy of low interest rates need to be followed. The major downside of such a policy is that inflation may occur in the economy and the global currency exchange rates may decline as the currency in circulation exceeds its demand, however as the entire globe is facing this tough economic situation, in my belief the same monetary policy must be continued up until the economy can stabilize and achieve a normal growth rate.

Rationale Behind why this strategy is important

The current monetary policy being followed is often known as an expansionary monetary policy. it is done so as to ensure that business owners do not suffer and can take loans at low interest rates and give the same to consumers and producers alike. During this low demand session, the country should not fear rising inflation as the demand can sustain the inflationary pressures in the short and medium run.

To facilitate growth back in the economy it is important to supply low cost credit to consumers as well as producers which will help them maintain demand and supply in the economy.