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What will rising interest rates mean for wealth inequality?

  • 01 March 2022
Australia’s Reserve Bank mainly concentrates on keeping inflation within an acceptable range and maintaining a high level of employment. Social equity has never been considered to be part of its mandate.

It should be. Interest rates have been the biggest cause of economic and social division in Australia, not just between rich and poor, but also between older and younger generations. The falling interest rates since the global financial crisis of 2008 have created an enormous gap between those able to profit off cheap debt and those who cannot. 

Interest rates are rarely considered by those examining issues of social equality. The usual focus is on the extent to which wealth should be redistributed through some sort of government intervention, funded by taxation revenue. That is critical for providing safety nets, but it is only part of the picture. People who bought houses last century have enormous wealth, at least on paper. The stock market is just over $2 trillion and superannuation is about $3 trillion. But the housing market is nudging $10 trillion in an economy that produces just under $2 trillion annually — a massive financial distortion that heavily favours middle class older people. Younger generations who want to buy houses now must earn very high incomes just to qualify for a mortgage. 

Even the pandemic did not slow down the rampant asset inflation. Instead, it accelerated due to extremely easy monetary conditions, yet more demonstration of how unpredictable markets can be. Last year, Australia's stock market finished the year up 17 per cent and homeowners saw the value of their properties jump more than 20 per cent. It seems asset prices are no longer reflecting the underlying economic activity. They are more a purely financial phenomenon that is becoming detached from the ‘real’ world. 

There is a joke about an economist who lost his keys at night in a dark forest. He starts anxiously looking for them under a streetlight. When asked why he is looking for the keys under a streetlight when he knows they were lost in the forest, he replies: ‘Because I can see what I am doing here.’

This is why the Reserve Bank simply throws up its hands when asked about asset inflation. It is harder for them to see what is happening; asset price inflation is more difficult to measure than consumer price inflation (CPI). CPI measures apply to things that are constantly transacted, such as