MNI INTERVIEW: Former RBA Research Chief Warns Of Higher Rates

Poor communication by the Reserve Bank of Australia has led markets to underprice the risk of further tightening, with another 25-basis-point increase to the 4.35% cash rate highly likely in August, the RBA's former head of research told MNI.

John Simon, who led the Bank's economic research department from 2014 to 2024, said the RBA risks damaging its credibility if investors begin doubting its willingness to raise rates further to return inflation to target. Inflation expectations are already increasing in ways that matter for future inflation outcomes, particularly through wage- and price-setting behaviour, he said in an interview.

“If expectations continue to drift higher alongside worse inflation reads, then yes that would be a credibility issue,” Simon said.

Markets currently assign only a 32% probability to an August rate increase, with around 15bp of additional tightening priced by December, following the board's decision to hold the cash rate steady on Tuesday. (See MNI RBA WATCH: Bullock Keeps Hike Prospects Alive Despite Hold)

"I would also have voted for a pause at this meeting, but they are much more likely to go for a raise next meeting,” Simon said, though he acknowledged that the RBA may ultimately choose to wait. "They have to keep hikes on the table.”

He pointed to recent wage decisions by the Fair Work Commission and unions that incorporate compensation for past inflation, arguing these developments risk embedding inflationary pressures in the economy. "You can't wait until the 10-year expectations let go. That's when it's too late," he said.

BANK COMMUNICATIONS

Simon also called on the RBA to explain its strategy and provide greater insight into how it intends to balance inflation risks, uncertainty and the timing of policy moves. "The market's swinging all over the place because all they can really take a read on is what's the vibe today, and then they just project that out into the future," Simon said.

Rather than attempting to communicate policy through individual decisions and post-meeting statements, the RBA should explain whether it intends to front-load inflation fighting or proceed more gradually, Simon said. Such guidance would not constitute a forecast or commitment but would help markets better understand how policymakers are managing risks.

The Bank's historical tendency to underestimate inflation pressures continues to shape investor expectations, he added. "I think people have still got this lingering feeling that the Bank is weighing unemployment more heavily than it has in the past, trying to follow the 'narrow path' and keep interest rates as low as possible," Simon said. The RBA's current approach of taking policy one meeting at a time amounts to tactics rather than strategy, leaving a vacuum that markets fill with speculation, he concluded. 

TO HIKE OR HOLD

While the RBA recently acknowledged some movement in shorter-term inflation expectations, Simon — who has previously criticised the Bank's dovishness — argued policymakers face a choice between tightening further now and holding rates for a shorter period or maintaining the current cash rate for longer. So far, they have responded later than they should have, he said, arguing that a sustained period of restrictive monetary policy is necessary. (See MNI INTERVIEW: More Hikes As RBA Softens Labour Stance)

"There would be a strong case to be made for going a little bit harder earlier," he said, citing inflationary pressures from wage growth and the lingering effects of recent supply shocks. 

Recent signs of softer economic activity should not be interpreted as evidence of a sustained slowdown, he said. Instead, households and businesses appear to be temporarily pausing spending and investment decisions amid heightened uncertainty, reflecting caution rather than a lasting deterioration in demand, making it difficult to identify a convincing source of sustained disinflation.

MNI INTERVIEW: Fed’s Next Rate Move Most Likely Upward-Kohn 

The Federal Reserve’s next move on interest rates is likely to be higher as long inflation pressures linger and given new Fed Chair Kevin Warsh’s strong focus on the price stability side of the central bank’s mandate, former Fed vice chair Donald Kohn told MNI. 

“To carry through on the emphasis and priority given to price stability, is the next move more likely to be up or down? I would say it's more likely to be up,” said Kohn, a four-decade veteran of the Fed who is now at the Brookings Institution.

While Warsh was circumspect in offering policy guidance or even detailed insights into his economic views, Kohn said there was a hint of it when the chair spoke about the degree of policy restrictiveness, describing it as uneven. 

That, Kohn noted, was a break from Jerome Powell’s R-star focused approach, which would lead the former chair to say policy was mildly restrictive.

Warsh also repeatedly emphasized his commitment to returning inflation to 2% after more than five years of overshoot, painting it as the FOMC’s primary immediate goal. His hawkishness took many investors by surprise.   

“I share some of the skepticism on whether they are headed back to 2%. And I was a bit skeptical on whether they needed, particularly, that last cut in December, the insurance cut,” he said. 

“Growth is solid, the labor market looks solid. If wealth continues to build and there isn’t some evidence of the surge in productivity, the argument might be they bought a little too much insurance last year and they have to take it back.” (See MNI INTERVIEW: Fed At Neutral Risks Entrenched 3% Inflation-Koenig)

Kohn said he expected a hawkish shift in the tone and substance of the Fed’s internal deliberations but was surprised by how quickly the transition to active discussion of rate hikes had taken place. 

“The direction of travel was where I expected things to go but the travel was further than I thought it would go,” he said. 

TASK FORCES

The former vice chair welcomed Warsh’s launch of various task forces to examine possible improvements in everything from communications to the balance sheet. He said there is precedent for this around the world. 

“I think that's a great idea. It gives time, six months at least, for him to get his feet on the ground and figure out what needs to happen, what's already happening, etcetera. I like the idea of bringing in some outside voices into those task forces. It's a little tricky with confidential information and whatnot, but that can be handled,” said Kohn.

“There are other central banks – the Bank of England, the Riksbank, Reserve Bank of New Zealand, the Reserve Bank of Australia – that have brought in outsiders to evaluate them. And in this case he's talking about task forces that are joint insiders and outsiders, so I think that's a very constructive way to proceed.”

ECONOMIC NARRATIVE

Warsh’s reluctance to offer economic clues led to a dearth of information about his inclinations that will need to be addressed more directly as his tenure evolves, said Kohn 

“He kind of used the dialing back for guidance to avoid saying very much about how he was viewing, or the committee was viewing, the economy. Why was the inflation forecast revised so much? Why were the dots revised so much higher? We didn’t get that. How is inflation going to come down over time. We didn’t get that either. 

“But he's only been there three weeks, so I think it was a good start. Even if he doesn't give forward guidance on interest rates, he needs to give a story, a narrative around what's happening in the economy, why it's happening, what the committee led under his leadership will be looking at.”

MNI BOE WATCH: Future Hike More Remote Prospect After 7-2 Hold

The Bank of England voted seven-two to hold Bank Rate at 3.75% on Thursday, while stressing uncertainty over the outlook for energy prices, any second-round effects and output even with an Iran peace deal.

The voting pattern was very similar to that of April’s meeting, with only Megan Greene's vote changing as she joined Chief Economist Huw Pill in voting for a 25-basis-point hike. The majority were sceptical that material second-round effects were likely.

"The labour market continues to loosen, and signs of a weakening economy could contain inflationary pressures," the Monetary Policy Committee said in its statement, which also noted that an increase in "interest rates faced by households and businesses ... will act to reduce inflation over time."

Even after the news of a ceasefire in the Middle East, global energy prices "remain higher than pre-conflict and have continued to be volatile," the statement said.

INFLATIONARY PRESSURE

Governor Andrew Bailey said that "whatever happens in the future, the higher energy prices of the past four months mean there's already some inflationary pressure in the pipeline."

Still, after a fall in headline May CPI inflation to 2.8%, Bailey wrote in his personal paragraph that "recent inflation outturns give greater confidence that gradual underlying disinflation has continued." (See MNI INTERVIEW:UK Inflation Peaks Year End, Stays High-Sentance)

He also raised the risk posed by excessively restrictive policy.

"Our remit recognises that attempting to bring inflation back to the target too quickly may cause undesirable volatility in output ... tolerating temporarily above-target inflation as part of a return to target is an appropriate way to approach the trade-off, providing inflation expectations remain contained," he said.

According to the minutes of the June meeting, the June Market Participants Survey found median expectations were for a June hold and "thereafter, for Bank Rate to remain unchanged for the year ahead," even as market pricing continues to imply a full hike by year-end. 

Households' near-term inflation expectations had "picked up materially" in the Bank's polling with Ipsos, rising from 3.2% in February to 4.0% in May. (See MNI INTERVIEW: UK Inflation Expectations More Loosely Anchored)

SECOND-ROUND RISKS

But Deputy Governor Sarah Breeden said that "the economic environment means the chance of material second-round effects is small," though she remains "committed to acting early and decisively should material second‑round effects become likely."

Clare Lombardelli, another of the BOE's Deputy Governors, said she would react to "signals to indicate inflation would persist above target," but that tighter financial conditions continue "to weigh against the greater inflation pressures," while Swati Dhingra also did not see compelling reasons to move "pre-emptively."

Alan Taylor, who has generally voted for a lower path for Bank Rate than the committee at large, said "the yield curve shows we have tightened a lot just by holding," while "absent mechanical direct and indirect energy effects from the conflict, CPI inflation would have been at target in April.” Deputy Governor for Markets Dave Ramsden said his "reaction function will remain state-contingent on both the development of the conflict, and what that means for the outlook for the economy."

Catherine Mann believed risks tilted to the upside on inflation, but that the committee could react quickly to this materialising, as "research shows that a forceful Bank Rate decision can have a quick effect on inflation and inflation expectations."

On the contrary, Megan Greene said that a "proactive hike now in Bank Rate should help anchor inflation expectations," after referencing a personalised scenario from a recent speech that she used to claim that delaying a hike would risk embedding persistent inflation. Chief Economist Huw Pill, who has consistently voted for higher rates than the committee, voted for "prompt but modest action" to "put the MPC in a good place from which to respond to the evolution of events from here."

MNI INTERVIEW: ECB Rates Already Too High - Bofinger

The European Central Bank’s decision last week to hike rates likely leaves Europe trapped with too-tight monetary policy for the next six months, a leading German economist told MNI.

While its impact on the pace of price growth will be limited, the 25-basis-point hike to 2.25% was “really designed to send a psychological signal after they reacted too late to the crisis following the Russian invasion of Ukraine,” he said.

“The correct response would have been to allow fiscal policy to soften the shock and limit its impact directly, as it has been trying to do in Spain, for example, with the reduction of VAT, and to a lesser extent in Germany with the gasoline rebate,” former German Council of Economic Experts member Peter Bofinger said in an interview, calling higher interest rates “a blunt tool.”

The ECB is now likely to fall behind the curve in cutting rates, since such a “huge U-turn” would be to admit it made a mistake, “albeit one that did not do anything to bring down inflation,” Bofinger said. 

“The ECB will wait a while before lowering interest rates even if inflation does start to come down rapidly - at least two quarters or so," he said, adding that while the central bank claims 'data-dependent' does not mean data-point-dependent, "it means always waiting, which means you are naturally behind the curve - especially when things are changing rapidly.” (See MNI SOURCES: ECB September Meeting 'Live' Despite Iran Deal)

GERMAN ECONOMY

While the Bundesbank projects that expansionary fiscal policy, particularly from defence spending, will contribute 1.3 percentage points of Germany’s GDP growth from 2026-28, Bofinger said the economy’s main problem remains a lack of private investment.

“So far, we’ve not seen much impact from the government’s economic policy, especially on private investment, which is very weak. Our whole economic policy lacks a strategy; worse, policymakers do not even realise that a strategy is needed,” he said, calling for government, scientific experts and companies to identify the main areas in which Germany can compete strongly in five to 10 years’ time. 

“But that is absolutely lacking. Yes, we need less bureaucracy, etcetera, but this microeconomic approach will not succeed,” Bofinger said.

New government incentives which allow companies to offset a greater share of recently-acquired assets as depreciation will be ineffective, Bofinger said, adding that they will also depress tax revenues for the next five years.

“It does not mean that companies will invest more, only that they can continue to invest at the current level. Nor do they have to invest more to qualify for it. If that’s the main instrument, it’s not surprising that companies aren’t investing more in Germany.”

Large German firms are laying off workers - an indicator, Bofinger said, that they do not see production as being limited by a lack of skilled workers, as was the case five years ago, but rather as due to insufficient demand. “Nor do I see how that can be stopped without a change in our business model,” he said.

NO TO PROTECTIONISM

Germany’s reliance on Chinese solar panels and batteries for its energy transformation means it cannot afford to be protectionist, Bofinger said. Instead, it should look to copy China’s own tactic of technological “leap-frogging,”  by identifying areas, such as renewable energy, where it can use Chinese products to gain a competitive advantage, while encouraging Chinese companies to build factories in Germany and Europe. (See MNI: EU Action On China Would Cut Off Key Supplies - Advisor)

Bofinger, a member of the special commission that will report later this month on potential pension reforms, said it is “very difficult” to make major savings, with public payouts already lowered in recent years and any further reduction likely to test the legitimacy of the entire scheme.

“Nor do I see that you can save a lot with the health system. Of course, there is a commission which has made certain recommendations, but I doubt that the savings it proposes will be sufficient to fundamentally change the state of our public finances,” he said.

“That is in any case not the main problem right now. It’s our business model. Fix that, and we will be able to deal with the public finances.”

MNI INTERVIEW: Norges Head Sees Rate Hike Despite Iran Deal

The Norges Bank’s new guidance that it would likely be "necessary to raise the interest rate somewhat further" incorporates significant uncertainty over oil prices and the U.S.-Iran Memorandum of Understanding, Governor Ida Wolden Bache told MNI.

Speaking after the Bank's Monetary Policy and Financial Stability Committee kept its policy rate unchanged at 4.25%, Wolden Bache said updated forecasts in the quarterly Monetary Policy Report were completed before the MoU was signed, but that little substantive had changed since.

"The interest rate forecast in the report, and our projections more generally, are based on data up until Friday. We had already seen signs of oil prices coming down at that point, but our assessment also at the meeting yesterday was that those movements between the cut-off date and the meeting would not have affected the overall picture to any large extent," she said in an interview.

Her comments echoed those of Riksbank Governor Erik Thedeen, who told MNI on Wednesday that uncertainty persisted despite the Gulf ceasefire. (See MNI INTERVIEW: 50/50 Hike Chances Due To Iran Doubts-Thedeen)

MOVING R-STAR

Norges Bank’s annual assessment of the neutral level of interest rates, r-star, came up with a range between 2.25 and 3.75%, implying that current policy is restrictive but to an uncertain degree. The figure put into the forecast model, r-bar, based on market pricing, was edged lower.

"We have raised the upper part of the interval slightly on the basis of the new analysis. There is a tiny revision to the point forecast which we need to put into the model," Wolden Bache said. "That has not been a major consideration affecting our assessment of the restrictiveness of monetary policy at the current meeting to a significant degree.”

LIQUIDITY AND CDs

Wolden Bache was accompanied in the interview by her executive director markets, Gaute Langeland, who played down market concerns over potential liquidity shortages as Norges Bank aims at an operational target of NOK30-40 billion of fully-renumerated reserves after restructuring its balance sheet and launching a certificates of deposit programme.

The CD programme "will run with a stable volume throughout the year once it's built up to the target, and then you have fluctuations in the aggregate liquidity due to payments to and from the government accounts, which means ... after you take the structural liquidity minus the bills, we end up with something that may be both above and below [the 30-40 billion] target," he said. 

Norges Bank will run regular operations and fine tune to steer liquidity to within that target "So I have no worries ...that we do not fit into the range," he said, though he acknowledged an impact on money market pricing.

"The structural liquidity and the banks' position before our operations affect pricing in the money market. So you can see that there is a spillover from structural liquidity, the programme, to money market premiums, but I think we are well within the range where this has any sort of unforeseen results," Langeland added.

Norges Bank aims to fix the overnight-unsecured interbank NOWA rate at the policy rate, he noted.

"We want that to fix at the policy rate, which it does pretty much every day and then there are many premiums that will feed into where the three month money market rate sits. We don't have a target for that, and we think that it's a good thing that it reflects conditions in the money market," he said.

MNI SNB WATCH: On Hold With Benign Swiss Inflation Outlook

The Swiss National Bank left its benchmark Policy Rate unchanged at 0% as expected on Thursday and said that it has an increased willingness to intervene in the foreign exchange market “if necessary."

While inflation has risen in recent months as a result of higher energy prices, medium-term inflationary pressure "is virtually unchanged compared with the last monetary policy assessment,” it said in a statement.

"Our monetary policy is appropriate to keep inflation within the range consistent with price stability and it supports economic development. We will continue to monitor the situation and adjust our monetary policy if necessary, in order to ensure price stability," SNB President Martin Schlegel said. (See MNI SNB WATCH: On Hold Despite Modest Inflation Upside)

FOREX

Schlegel told reporters that the Board left its statement on forex intervention little changed, repeating its willingness to "counter a rapid and excessive appreciation of the Swiss franc, which would jeopardise price stability in Switzerland."

Asked whether the addition of "if necessary" was meant to lessen the impact of the guidance, Schlegel said it should be read exactly as flagged and no inference taken. "We said 'if necessary', and that is exactly how we mean it."

"Upward pressure on the Swiss franc initially increased with the escalation of the conflict in the Middle East, as the franc was sought after as a safe haven and we therefore increased our willingness to intervene in the foreign exchange market at the beginning of March. As the interest rate differentials with other countries have widened, the Swiss franc has depreciated somewhat. However, the geopolitical situation remains uncertain," he said

"The risk of strong upward pressure thus persists. If necessary, we therefore have an increased willingness to intervene in the foreign exchange market," he reiterated.

The Board recognised that "uncertainty about inflation and economic development is still high and [it] will therefore continue to monitor the situation and adjust our monetary policy if necessary, to ensure appropriate monetary conditions."

INFLATION OUTLOOK

Schlegel said the board had discussed the U.S.-Iran memorandum of understanding which was signed on Wednesday.

 "We see inflation to rise over the short term, but think CPI will come down again over the medium term - hence we kept rates unchanged."

"As expected, inflation has risen since the last monetary policy assessment, from 0.1% in February to 0.6% in May. This increase was mainly attributable to higher prices for oil products. The other goods and services made little contribution to the rise in inflation.”

The SNB sees inflation slightly higher in coming quarters, before declining somewhat in the first half of 2027 as the impact of higher energy prices likely eases over time, Schlegel said. The SNB forecast average annual inflation at 0.6% for 2026, 0.6% for 2027 and 0.7% for 2028, based on the assumption that the policy rate is 0% over the entire forecast horizon.

The discount for remuneration on banks’ sight deposits above a threshold was unchanged at 0.25 percentage points.

MNI: PBOC Targets Monetary Policy Reform Via Overnight Rate

China's efforts to strengthen control of overnight interest rates will reduce volatility in interbank funding markets and support a transition toward an overnight-rate-based monetary policy framework like that used by other major central banks, economists told MNI, noting the changes should ultimately lower financing costs in the real economy.

The 20-basis-point narrowing of the short-term interest-rate corridor to 50bp – announced by People's Bank of China Governor Pan Gongsheng Wednesday – will limit fluctuations in overnight rate, reduce funding-rate volatility and stabilise liquidity expectations among financial institutions, said Dong Ximiao, chief economist at Merchants Union Consumer Finance, complementing Pan's plan to narrow the interest-rate corridor by setting the upper and lower bounds of the temporary overnight repo and reverse repo facilities at 25bp above and below the 7-day reverse repo rate.

A more effective framework for managing short-term rates would strengthen the transmission mechanism from policy rates to market rates and ultimately to lending rates,  helping reduce financing costs for businesses and households, Dong argued when talking about the planned overnight repurchase facility. (See MNI: PBOC To Reduce OMOs Further, Drain Bond Liquidity)

The latest measures represent another step in the PBOC's shift from managing the quantity of liquidity toward influencing the cost of funds through interest rates, building on a reform blueprint first outlined in June 2024.

Wang Qing, chief macro analyst at Orient Golden Credit Rating International, told MNI that the combination of a benchmark overnight reverse repo facility and a narrower corridor would improve the stability of the DR001 money market overnight rate, strengthening policy transmission along the yield curve and enhancing the effectiveness of price-based monetary policy.

The current short-term rate corridor is centred on the 1.4% 7-day reverse repo rate, with temporary overnight repo and reverse repo rates serving as the lower and upper bounds. Following Pan's announcement, the corridor now ranges from 1.15% to 1.65%, compared with the previous 1.20% to 1.90%.

OVERNIGHT RATE

Ming Ming, chief economist at CITIC Securities, said the planned overnight repurchase tool would likely operate regularly in a manner similar to the existing 7-day reverse repo.

While the rate has not yet been announced, Wang estimated it could be set at 1.3%, or 10bp below the current 1.4% 7-day reverse repo rate. If the overnight rate is eventually designated as the benchmark policy rate, it could replace the 7-day reverse repo rate as the basis for the Loan Prime Rate, he added.

Dong, however, cautioned that the 7-day reverse repo rate will remain the primary policy rate in the near term, as the current corridor continues to be centred on that rate, reinforcing its role as the key policy anchor.

The PBOC stressed that it will conduct operations when primary dealers require funding and when DR001 moves outside the corridor boundaries, underlining its intention to manage short-term rates more actively.

According to Lu Ting, chief China economist at Nomura, the direction of the PBOC's interest-rate framework reform is clear, with China gradually moving toward the simplified structures used by the Federal Reserve, the European Central Bank and the Bank of Japan, centred on a single overnight policy rate and an interest-rate corridor. (See: MNI INTERVIEW: China Property Bailout Would Take 10% Of GDP)

Lu agreed the benchmark policy rate is likely to migrate from the 7-day reverse repo rate toward an overnight rate. He argued that active trading of short-term government securities would provide the PBOC with a vehicle for high-frequency operations and more precise management of overnight funding conditions, allowing policymakers to focus more on interest-rate signals and less on direct liquidity management.