As the dust settles on the 2007 election and Kevin Rudd prepares to move into the Lodge, many mortgage-holders are now asking what will happen to interest rates. Although Kevin Rudd has promised to keep rates low, it is quite possible that interest rates will be largely out of his control.
There have been six interest rate rises since the 2004 election when John Howard pledged to keep interest levels low. The official rate is now at its highest level in over a decade at 6.75% as the Reserve Bank struggles to control inflation. In theory, higher interest rates reduce inflation by dampening demand for borrowing which in turn reduces consumer spending.
Interest rates were one of the main points of contention in the election campaign. The Liberal party ran a scare-campaign linking Rudd and his opposition team with the double-digit rates that were seen when previous Labor party governments were in power. On the other hand, the Labor party chose to highlight the rate-raises that have occurred since the 2004 election and their impact on housing affordability for first-home buyers.
Contrary to what both sides of politics would like you to believe, interest rates are not controlled by the government of the day, but by the independent Reserve Bank of Australia. To maintain this independence, the board of the RBA is allowed to set monetary policy without interference from the government.
The main aims of the RBA with interest rate policy are:
They do this by setting interest rates to keep inflation near predetermined levels. By placing the rate-setting decision in independent hands, politicians cannot directly use interest rates as tool to sway voters. For example, a government might be tempted to reduce interest rates before an election to help their re-election.
So what of Kevin Rudd's promise on interest rates? To a large extent it is out of his hands. The RBA will adjust rates depending on the outlook for inflation. A government can affect inflation by spending more or less, with higher government spending contributing to an increase in inflation. Another factor that can lead to inflationary pressure is the increase in wages which can also be affected by government policy.
But largely, inflation and interest rates are a matter of supply and demand within the economy. So whatever happens to interest rates under Kevin Rudd, chances are the same they would have happened no matter who is in power.