Thanks for your question, ABC business reporter Michael Janda explains:
In short, because the Reserve Bank’s job has been done to keep inflation under control and interest rates are practically the only tool they have to do so.
Since the early 1990s, the Reserve Bank, with the agreement of the government, has sought to maintain the rate of inflation, that is, the level of price increases, at approximately 2 to 3 percent each year.
It’s currently 6.1 per cent and is expected to rise to 7.75 per cent, so clearly the RBA feels it needs to do something.
All it can really do is raise interest rates. This makes debt more expensive, so we are asked to spend less, but it also means that existing debt becomes more expensive, so people with mortgages will have less money left over to spend on other things.
If many people cut back on spending, that should cause prices to fall, or at least rise less quickly.
Unfortunately, it also means increased unemployment and the potential for some people who can’t afford their higher mortgage payments to lose their homes.
There is an alternative, and that is for the government to assume more responsibility in the management of the economy.
That hasn’t really happened since the Hawke/Keating era.
If the Albanian government decided to go down this path, it could cut spending or raise taxes to try to help the Reserve Bank take some of the demand out of the economy.
This can also be more targeted.
One option, for example, would be to increase taxes aimed at wealthier households who may be struggling less with the rising cost of living (for example, by reducing the capital gains tax discount or increasing taxes on large pension balances) and using that income to help lower-income households, such as the unemployed, cope with the rising cost of living.
This would reduce the spending power of wealthier households who are more likely to spend money on non-essential goods and services, while ensuring that lower-income households can still afford to buy basic necessities.
This contrasts with interest rates, which are what economists describe as a “simple” policy tool: they affect all members of the economy, for better or for worse.
This is an issue that the Reserve Bank review could look at, and I wrote about it in more detail last week: