RBA review calls for central bank to have 2 boards

The federal government has accepted, in principle, all 51 recommendations of the wide-ranging review into the Reserve Bank (RBA), An RBA fit for the future, which will result in one of the largest shake-ups in its 63-year history.

The review, which was first committed to by the Morrison government and was released on Thursday (20 April), analysed the RBA’s performance over the past 30 years and considered the “appropriateness of the inflation-targeting framework”; the makeup of “board structure, experiences and expertise, composition and the appointments process”; and the conduct of the bank “during crises and when monetary policy space is limited”.

It also considered its choice of policy tools, policy implementation, policy communication, and how trade‑offs between different objectives have been managed.

The review was led by a panel of three “independent experts” including former senior deputy governor to the Bank of Canada, Carolyn Wilkins; Australian National University economics professor Renée Fry‑McKibbin; and Australian economist Dr Gordon de Brouwer.

How will the monetary policy board function?

Among the major changes of the 294-page review is a recommendation to move away from having one board that oversees everything, to one that sets monetary policy and the cash rate and another that oversees the bank’s governance (including HR, technology, and risk management). This would reduce the concentration of power when it comes to central bank decisions and improve governance.

The Monetary Policy Board should comprise the governor, deputy governor, treasury secretary and six external members, with the governor as chair, the review recommended.

The six external Monetary Policy Board members should also be given direct access to RBA staff for support on technical matters and additional analysis when requested, the reviewers suggested.

According to the review, the RBA Monetary Policy Board should regularly communicate:

• How long inflation is expected to be materially away from the midpoint of the target and why
• How long labour market conditions are expected to deviate from full employment and why
• How it is balancing its two objectives

It also should also explain the key factors affecting its decision-making, such as financial stability risks that should be a consideration in monetary policy decisions to the extent that they may influence the price stability and full employment objectives, the reviewers continued.

Moreover, the report suggests that the Monetary Policy Board should meet eight times a year - rather than the current 11 times a year - to allow for more in-depth discussions including of the forecast, strategy and other monetary policy issues.

This new timetable, it says, would "allow sufficient time between initial discussion of the issues and the final decision for members to reflect on the issues and request follow-up analysis as necessary". It could also "provide opportunities for the Monetary Policy Board to hear the views of a wider range of RBA staff on issues that would inform the decision".

An additional two new board members are expected to be appointed to the board structure (currently nine people) to also bring more people into the decision-making of the bank. This is expected to include those who specialise in economics, labour markets, and financial markets to provide “diverse perspectives and knowledge”.

Inflation target still appropriate, finds review

The move to separate out the governance and monetary policy decisions of the central bank comes after RBA governor Philip Lowe received widespread criticism in 2021 by outlining that the central bank would not increase interest rates (from the record-low level of 0.10 per cent) until 2024.

Mr Lowe had said in the past that the RBA was targeting a sustainable inflation range between 2–3 per cent in order to increase rates. He said: “Predicting how long it will take is inherently difficult, so there is room for different views. But our judgement is that we are unlikely to see wages growth consistent with the inflation target before 2024. This is the basis for our assessment that the cash rate is very likely to remain at its current level until at least 2024.”

However, as inflation accelerated, surging to 5.1 per cent for the year to March 2022 amid supply chain issues and the Ukrainian war, the RBA increased the cash rate for the first time since 2010 in May 2022. This was then followed by nine consecutive hikes, a move which Mr Lowe recently defended.

However, the RBA review has suggested that the flexible inflation target of 2–3 per cent should be retained and that the RBA should “aim at the midpoint to maximise the chance that the target is met and best anchor inflation expectations”.

In overview, the RBA reviewers said: “We have identified four ways the governance, monetary policy framework, culture and systems of the RBA should be reinforced.

1. The monetary policy framework is fundamentally sound but should be more clearly defined and regularly assessed for updates.

2. Monetary policy decision-making should be strengthened, drawing on more expertise and with processes that promote deeper contestability of ideas.

3. The RBA should become more open and dynamic, through new internal structures and approaches.

4. The RBA’s corporate governance should be strengthened, with contemporary governance structures that better manage risk and drive change.

“Structures and policies can only achieve so much. To be fully effective, the RBA’s leadership and board need to drive these changes, through what they say, do, measure and report. Our changes would fortify an already effective institution, making it better placed to face the challenges of the future.” 

The reviewers also outlined that the RBA should be reviewed every five years to look at its monetary policy framework and policy tools and the RBA appoints a chief operating officer.

Mr Lowe, who ends his seven-year tenure at the helm of the central bank in September (but has said he would continue for a new term, should he be asked to do so), welcomed the review on Thursday (20 April).

In a statement following the release of the review, he said: “The Review Panel rightly acknowledged the substantial contribution the bank has made to Australia’s economic success and the skills and dedication of the staff. It also acknowledged the RBA is highly regarded and respected in Australia and overseas.

“The recommended changes will build on that strong foundation and strengthen the Bank’s governance and decision-making processes. They will help us deal with the complex world in which we operate as we strive to promote the economic welfare of the Australian people.” 

Reforms expected to be implemented by middle of 2024

The government has said it will now work with the RBA, the Parliament, and other stakeholders to implement the reforms — expecting to have them all bedded down by the middle of 2024.

Federal Treasurer Jim Chalmers said: "The Albanese Government agrees in‑principle with all the review’s recommendations and will now work with the RBA, the parliament and other stakeholders to implement them.

"This review, its recommendations and our response are all about ensuring the Reserve Bank has the best frameworks, objectives, processes and expertise.

"Australia faces a complex and rapidly changing environment, and we need the most effective central bank and monetary policy framework to meet current and future economic challenges...

"Implementing these recommendations will ensure our monetary policy framework is the best it can be and boost confidence in our central bank.

"The government is committed to working with the Reserve Bank, Council of Financial Regulators, and other stakeholders to implement these recommendations, collaboratively and constructively."

Mr Chalmers noted that the government intends to introduce legislation to:

• reinforce the independence of the RBA in the operation of monetary policy;
• strengthen the RBA’s mandate and clarify that Australia’s monetary policy framework will have dual objectives of price stability and full employment; and
• establish a separate Monetary Policy Board and Governance Board to ensure decision making and corporate governance arrangements are as effective as they can be.

A new Statement on the Conduct of Monetary Policy is expected to be finalised before the end of 2023 with the reforms anticipated to be bedded down by the middle of 2024.

[Related: ‘What’s the alternative?’ RBA governor defends rapid rate hike cycle]