Interest rates & recession

There are often more than two sides to a story. Looking at monetary policy (both in Australia and across the western world) there are those who advocate for higher interest rates to control inflation while hoping for a soft landing, and those who argue to maintain lower interest rates to avoid a recession. The third option is that we may need to accept higher interest rates even if it leads to a recession.

This may sound callous, but it’s important to remember that low interest rates do not prevent economic trouble. Keeping interest rates artificially low may delay the pain, but the ultimate outcome will be the double-whammy of ongoing high inflation with eventual stagnation and recession anyway. That is a path that can destroy countries, and must be avoided. A soft landing would be ideal, but the truth is that governments (and their central bankers) around the world need to hold their nerve with higher interest rates even if it causes an economic downturn.

Fundamentally, the issues of inflation and recession must be addressed with different types of policy. Inflation can only be addressed through more responsible macroeconomic policy, including higher interest rates. Meanwhile, sustainable economic prosperity can only be achieved through microeconomic reform that boosts productivity. Both of these policy agendas will require political courage, but if we want to achieve higher wages and stable prices then there is no alternative.