Interview with Kerry O’Brien

7.30 Report

Thursday, 27 July 2006

7.35 pm

SUBJECTS: Consumer Price Index, interest rates, Reserve Bank

O’BRIEN:

Peter Costello, when you became Treasurer, I wonder whether you’d ever see the day that you’d be looking at an interest rate rise off the back of the price of bananas.

TREASURER:

Well, of course, bananas were the largest component in that CPI figure. But as I was trying to explain in media today, interest rate policy is not just directed at the manual or the mechanical CPI. We try and look through one-off factors and we try to get a picture of what’s happening underline. A lot of people have been making the point today that although the price of bananas has gone up, that doesn’t mean that they’ve been paying for bananas, because many people just substitute out of bananas for some kind of other fruit. So, you do have to look very carefully in the way in which there’s a composition and try to look through those one-off factors.

O’BRIEN:

But the price of bananas will come down hopefully when the Queensland plantations start producing again. But the high price of oil is no longer looking temporary, is it? On The 7.30 Report last night, we had one expert saying that we’ll soon be looking back with fondness at the day we only paid $2 a litre for petrol.

TREASURER:

I agree with you, Kerry. The price of bananas will recover as soon as the crop comes back and that will be at the end of this year. The petrol price, which we’d hoped would be a temporary increase, has been sustained for a long period of time and I must say to you I see no relief in sight. I wouldn’t hesitate to try and predict where the oil market would go, but I can’t see it coming back to the kind of prices we were paying five years ago. I can remember a time, just before 2000, when oil was $US11 a barrel, and now we’re closer to $US70 or $US80 a barrel. That’s a seven-fold increase.

O’BRIEN:

So, the Reserve Bank has to start taking oil into account as a permanent part of the landscape in terms of its current pricing?

TREASURER:

In this respect. If you moved monetary policy that wouldn’t affect the price of oil because the price of oil has been set on an international market. So, you wouldn’t just look at the fact that oil prices are high, petrol prices are high, and, therefore, take a monetary policy response. What you would look for is you would look for evidence that the first-round effect is now having a second-round effect. If there was a second-round effect, if the movement in transportation costs started building into the costs of other goods and services, that’s the issue that you’d be looking at.

O’BRIEN:

So, it seems you’re arguing that the Reserve Bank shouldn’t be increasing interest rates in this next deliberation, but, in the end, there are eight members of the Reserve Bank board appointed by the Government. You talk a lot about the independence of the Reserve Bank. I assume that you will trust their judgment and that their judgment in the end will be the right one?

TREASURER:

Oh well, sure, Kerry. It was my decision to put the bank on an independent footing and to give the bank its independence and it will make an independent decision. I’m not actually arguing a particular case at all. I’m trying to explain the monetary policy that we have. We have a policy of setting monetary policy to inflation, 2-3 per cent on average over the cycle. What that means is, at times, you will be above the 3 per cent band, at times, you will be below the 2 per cent band – because what we’re looking for is an average over the cycle. Where your CPI is affected by one-off factors, which we know will pass through the system – and bananas are obviously a one-off factor, assuming there are no more cyclones – you take that into account. Where it’s affected by external factors you take that into account. We’re not looking at those external factors. We’re only interested in this point: to the extent the external factors have an influence on the domestic price of goods and services.

O’BRIEN:

OK, what you’re also dealing with and what the Reserve Bank has to look at is the resources boom, which is affecting Western Australia but spilling over into the rest of the economy. I mean, the Reserve Bank does have to take that into account, doesn’t it? Even though you might say that the bulk of that boom, the inflationary effect of that boom, might be largely being felt in Western Australia?

TREASURER:

Absolutely, Kerry. We have one monetary policy for the whole of Australia, so, it’s got to be directed at all the states even though different states are in different positions. Now, you know, if we still had six colonies, we might have six different monetary policies and six Reserve Banks. But we’re one nation; we have one bank, one policy. This is the art of monetary policy. It’s got to be directed to the whole, even though it will probably be a little tight for some areas and a little loose for others.

O’BRIEN:

But it’s entirely possible, is it not, regardless of what the pros and cons, entirely possible that we’ll see housing interest rates soon above 8 per cent?

TREASURER:

I wouldn’t want to go into the forecasting business.

O’BRIEN:

But we know that that is a real possibility.

TREASURER:

Well, I wouldn’t concede that because I’m not going into the forecasting business.

O’BRIEN:

Well, would you concede this: that there are many people struggling on mortgages right now, Mr Costello; credit card debt has hit an all-time high; we’ve already had one recent interest rate increase and I would think that any further interest rate hike now would be a double whammy for them – a triple whammy, if you throw in the extra money they’re having to find just to fill their car with petrol at the bowser.

TREASURER:

Petrol is a problem and it’s hurting the consumer and it’s hurting families – I acknowledge that. And that will be taking quite a lot out of the family budget. In relation to home mortgage interest rates, you’ve got to put this in context. You’ve got a standard variable rate of around 7.5 per cent.

O’BRIEN:

That might soon be up close to 7.8 per cent–

TREASURER:

7.5 per cent.

O’BRIEN:

And if there’s a second hike that many in the market are predicting, that will put it up over 8 per cent.

TREASURER:

Well, you’ve got to put that into context – when I first became Treasurer it was 10.5 per cent.

O’BRIEN:

Yeah, that was 10 years ago.

TREASURER:

Yeah, well, that’s right, it’s substantially lower than where we started from and I can remember the days, as you can too, where it was 17 per cent.

O’BRIEN:

But the point I’m making, Mr Costello, is you’ve got this record high in credit card debt, you’ve obviously got a lot of people close to the edge when you put the combination of mortgage rates, credit card debt and the cost of this extra cost of petrol together, you’re looking at people who are – to them, talk about what interest rates were 10 or 12 years ago or 14 years ago is irrelevant – what they’re concerned about is what the rates are now, isn’t it?

TREASURER:

I think what people are concerned about is their family budgets – couldn’t agree with you more. And their family budgets are being affected by petrol – I acknowledge that. Their family budgets are affected by mortgages. Their family budgets are also affected by the fact that it’s the best time to get a job in the last 30 years and that their wages have increased in real terms by about 16 per cent.

O’BRIEN:

And do you think also that might be affected – do you think that’s lulling them into a potential false sense of security? That is, in the end, why many of them are going into so much debt.

TREASURER:

You’re quite right about that, Kerry. If you’ve lived through a good economic time and it gives you confidence, one of the things you feel confident about is borrowing. And, so, you do tend to borrow and, of course, I’ve always said to people you’ve got to build in margins whenever you borrow. But when we put it all together, on a growing economy with low unemployment, these are still periods where families can plan for the future. I acknowledge that petrol, in particular, will be a cost for them. I acknowledge that and it’s largely beyond our control. But in relation to planning and job opportunities, this is a factor that is giving them great confidence.

O’BRIEN:

But, of course, politically you hung your hat in a very big way during the last election campaign on the fact that your Government keeps interest rates down. We’ve had one hike, we’re facing another and possibly two others in the very near future. That begins to represent political pain for you, doesn’t it?

TREASURER:

Well, Kerry, interest rates, as I said, are low by comparison with our political opponents. And I would stake our record any day against our political opponents. And notwithstanding anything that happens in the future, as I pointed out to you, the interest rates are very much considerably lower than they were under the Labor Party and I believe they always will be.

O’BRIEN:

And you’ve been running the economy for 10.5 years. I would suggest it’s a bit tough, isn’t it, that the first big issue to confront you after the bad news over your hopes of becoming Prime Minister being flattened somewhat in the last couple of weeks, that the first issue you confront, immediately in the wake of that, is rising interest rates? But I guess it doesn’t matter so much if you’re in politics for the long haul as you are.

TREASURER:

Well, Kerry, the thing about interest rates is that they do move up and they do move down. The unusual thing about Australia is we’ve had such a period of stability. If you want to look at countries like the United States, they’ve had about 20 movements down and 20 movements up. I actually think the success of Australia has been that we’ve had such few movements, that they’ve been quite a substantial period of stability, and if they move irregularly, then people are still able to plan with a great deal of confidence for the future.

O’BRIEN:

Peter Costello, thanks for talking with us.

TREASURER:

Thanks very much, Kerry.