In a move that shocked the nation and the world, the Reserve Bank of Australia raised interest rates 25 basis points to 4.75%and the Australian dollar has broken parity with the US dollar. The reason provided for the action: the RBA sees a risk of inflation rising over the medium term and that past moderation in inflation close to ending. Clearly, the Australian central bankers are operating from a different model than the United States.
As we peer into the two day meeting by the Federal Open Market Committee, the room is filled with a haze of uncertainty. Federal Reserve Presidents of New York, Atlanta and St. Louis have stated clearly that they believe they must act to eliminate a deflation spiral that they predict will cause irreparable damage to the economy and employment. They advocate a program of US Treasury bond purchases per month that is approximately the equivalent of all new US Treasury bond issuance per month.
Federal Reserve Presidents of Kansas City and Dallas urge caution as the merits of a new program are questionable at best and destructive at worst. Today, former Federal Reserve chairman Paul Volcker has stated that he does not expect “overpowering results” from any policy easing by the central bank to try to revive the U.S. economic recovery.