Reserve Bank of Australia (RBA) Decision to Reduce Cash Rate

Reserve Bank of Australia (RBA) Decision to Reduce Cash Rate

Coronavirus or Covid-19 has infected both world business and global economic functioning. Statistics suggest that the Australian economy is in a stable condition than other countries of the world. However, this does not indicate that the Australian economy is safeguarded from the negative spell of the deadly virus. Nevertheless, by the end of 2020, the economic growth of the country is expected to decline by 0.9% (Rba.gov.au, 2020). Therefore, this paper depicts several ways through which Covid-19 has affected the economic variables of Australia and provides evidence to support the decision of the RBA.

The Australian economy is already shaken by the drastic effect of bush-fires, and Covid-19 is intensifying the magnitude of the shock. About half of the Australian firms are facing difficulty in paying fixed costs due to inefficient productivity caused by lockdown (Koukoulas, Quiggin & Wood, 2020). Thus, the companies are aiming at firing labours and deducting wages, which raising panic among households and affecting aggregate demand of Australia. Moreover, there is a decline in personal and business investments, local demand in Australia (abs.gov.au, 2020). The seasonally adjusted unemployment rate of Australia amplified by 0.1% in March 2020 due to the Covid-19 crisis (Tradingeconomics.com, 2020). There is an increase in the number of jobseekers. Moreover, there is a sudden rise in inflation in Australia to 1.8%, which is again leading to a plunge in household expenditure (Tradingeconomics.com, 2020). Thus, the economic condition of Australia indicates that the components of aggregate expenditure may witness a drop. Additionally, there is an increase in government spending of about 16.4 % of the Australian GDP for the relief support of Covid-19 (Treasury.gov.au, 2020). Furthermore, as coronavirus is a global pandemic it is reducing international demand for Australian exports leading to a reduction in income. Thus, there is a fall in aggregate supply by local producers and exporters.

All these worsening conditions indicate that the Australian economy is expected to face a recession in the upcoming years. Hence, the RBA reduced the cash rate by 0.25% in 2020 (Rba.gov.au, 2020). Thus, it is sensible for the Australian Reserve Bank to raise money supply by reducing the cash rate. Mankiw & Ball (2011) argued that an increase in money supply can raise household consumption, investment opportunities and local production. As there is more money in the hands of the public they are keen to spend more, which can raise local demand and productivity. Gradually, with strong demand and higher scope of productivity investors will increase investment in Australian business. Moreover, an increase in the money supply can increase personal investments in property and other products, which can elevate total demand and domestic productivity. Additionally, the high volatility of the financial market can be stabilised using a lower cash rate, which can strengthen the confidence of Australian firms (Rba.gov.au, 2020). However, the RBA is expected to maintain a targeted cash rate because an excessive low cash rate triggers inflation, which can adversely affect consumers in the crisis and lead to recession.

The RBA is planning to reduce the cash rate due to weak economic productivity and growth. Covid-19 has already created significant strain in the economic functioning and business growth of the world. A reduction in cash rate can boost the consumption of Australian households, influence investment and retain business activity. Hence, in conclusion, this can be implied that RBA’s decision of reducing the cash rate is correct for stabilising the Australian economy.

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