Ideas@TheCentre

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The sun also rises on house prices and monetary policy

Stephen Kirchner | 01 April 2010
Reserve Bank Governor Glenn Stevens granted an unprecedented interview this week to a rather star-struck David Koch of Sunrise. In contrast to his predecessor, who never gave an on-the-record media interview during his 10 years in office, Stevens has made a concerted effort to get out more. He has given public speeches at around twice the rate of his predecessor, recognising that effective communication is essential to managing inflation and inflation expectations.

Stevens’ comments on house prices during the interview were widely seen as an attempt to ‘jaw-bone’ the housing market, but this is a risky strategy. For a start, his comments sent mixed signals. While questioning whether property was the ‘guaranteed way to prosperity,’ Stevens also questioned whether housing would be affordable for future generations, implying that house prices will continue to rise. If the public expect that housing will become even less affordable in the future, that belief could further fuel current demand.

His comments might also lead the public to believe that the RBA is targeting house prices, resulting in it being held responsible for developments in the housing market that are largely outside its control. There is little the RBA can do about supply-side constraints on housing other than to use its influence to highlight the problem. Stevens would be well aware that tackling house price inflation from the demand side with higher interest rates would not address the underlying problem of too few houses. Responsibility for housing affordability should be laid firmly at the feet of politicians.

Central banks have never ‘ignored’ asset prices, as some commentators now claim. Alan Greenspan said in his famous 1996 ‘irrational exuberance’ speech that ‘we should not underestimate or become complacent about the complexity of the interactions of asset markets and the economy. Thus, evaluating shifts in asset prices must be an integral part of the development of monetary policy.’ Monetary policy should be based on a complete description of the economy, including asset prices, but central bankers should not be seen to be assuming responsibility for house prices at the expense of consumer price inflation.

Dr Stephen Kirchner is a Senior Lecturer in the School of Finance and Economics, Faculty of Business, University of Technology Sydney. He is also a Research Fellow at The Centre for Independent Studies.