The reality facing the Reserve Bank is that inflation is too high for comfort as economic recovery gathers strength.
This is why we should see another 25-basis-point hike today.
But there are plenty of reasons for caution. Some facts reinforce the case for rate hikes, while other developments, if realised, would make further rate hikes damaging.
The global economy is now clearly divided into fast and slow lanes. The developed nations are in the slow lane, undergoing tepid recoveries. The latest news from the US shows fast growth of GDP and signs of stabilisation in the jobs market, but unemployment is still officially measured at 10 per cent of the workforce.
With many "discouraged workers" having left the workforce and even larger numbers working fewer hours than they wish, the amount of wasted labour market resources is dramatically higher - at least 20 per cent of the US workforce, in Henry's estimation.
This is a story repeated to varying degrees in the eurozone economies. The US Fed has said it will soon begin to remove "quantitative easing" but leave official cash rates close to zero for some time yet. Alan Greenspan's near-zero cash rates fed asset bubbles in the US and other parts of the world. Very easy US monetary policy will again feed global asset inflation.
It would be hard for Ben Bernanke to begin raising rates while 20 per cent of US workers are unemployed or underemployed, but failure to do this will recreate the asset bubbles of 2003-07. Bubbles create busts, and the next bust will come from a far higher base of wasted labour market resource. Bernanke presumably spent any holiday break pondering this major dilemma.
The US banks are roaring back, and Wall Street's enormous profits and bonuses have fuelled unhappiness, even rage, on Main Street. This is Barack Obama's dilemma, and he has returned from holiday full of resolve to fix the economy and bring the bankers to heel. The global banking crisis is far from over. New rules have been formulated, but The Economist has said: "If the banking system resembles a line of climbers roped together, then regulators are busy making the clothes warmer, the maps more accurate, the rations more filling and the whistles louder. Unfortunately, none of that is any good if someone falls over the edge, as a handful of banks are wont to do in financial crises."
In any case, new rules will not be implemented quickly, requiring as they must far higher capital ratios and major changes to banking practice.
There is potential trouble with banks from Paris to Timbuktu. US and British banks have been bailed out (at great cost) by their governments, but so far in Europe there has been remarkable stability in the banking system. Yet Western Europe has lent vast sums to east European nations and businesses.
There is a shaky row of dominoes waiting to stand or fall and, if the latter happens, one doubts the ability of the eurozone governments to stand them up again.
A major study in 2008 showed that sovereign debt was at a cyclical low during the boom from 2003-07. Yet four times since the year 1800, low points in sovereign debt default were followed by sharp increases. This study effectively dismissed the comforting "this time is different" hypothesis so beloved by those who never learned economic history.
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