Why are we in a low interest rate environment?

The context

When the RBA set the cash rate, they take into consideration a whole bunch of factors then set the ‘cash rate’ to influence what’s going on in our economy. (No idea what the RBA or the cash rate are? Shimmy on over to our other article to demystify them.)

The cash rate has been steadily declining and getting closer and closer to 0% since well before COVID graced our shores. In June 2011, the cash rate was 4.75%. If you take a look at the beginning of 1990, it was sitting at 17.50%.

The cash rate now? It’s just 0.10%.

In thirty years, they’ve dropped the cash rate from over 17% to nearly 0%. That’s what we mean when we say we’re in a “record breaking low interest rate environment”.

So, how did they get to this point?

Generally, the RBA set the cash rate lower hoping that people will spend less on interest payments on their home or business loan and more on actual things and investments. The RBA also want to hit their inflation target of between 2 and 3% because that means our economy is growing at their preferred rate and the country is financially stable.

In theory, this stimulates the economy (more people buying stuff and more people making stuff) which gets more people into jobs and more money flowing in and around Australia and the world.

Why does the economy need to be stimulated?

For a few years now, economies around the world have been slowing down. That was before the impacts of COVID-19 which has put on more pressure, too.

Here are some of the reasons that contributed to a low interest rate environment in Australia and around the world.

• Low wages growth and changes in types of jobs (i.e., gig economy)
• High household debt
• Jobs that used to be done in Australia can now be done in other countries for a lot cheaper
• Trade wars and political uncertainty in other countries

A lot of these situations interact with each other to influence our low interest rate environment but at the end of the day, it all means one thing: The RBA want to influence demand (people are spending money and are encouraged to purchase things). That’s why we’re in a low interest rate environment.