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Lesson M06.L05: Monetary Policy in Australia: Recent RBA Decisions (2020–2025)

Module: The Reserve Bank, Monetary Policy and the Economy Level: intro Duration: 30 minutes Learning Objective: Analyse RBA policy responses to COVID-19 (quantitative easing, yield curve control) and the 2022–23 inflation surge and rapid rate hiking cycle. Data as of: 2024 Provenance: RBA Education | RBA | ABS Price Indexes

Explanation

The period from 2020 to 2025 represents the most dramatic episode in the RBA's post-1993 history, encompassing emergency pandemic easing, unconventional policy tools, and the fastest tightening cycle in a generation.

Phase 1: COVID-19 Emergency Response (2020–2021)

When COVID-19 struck in March 2020, the RBA cut the cash rate to a record low of 0.10% — close to the "zero lower bound" where conventional rate cuts lose effectiveness. With little room left to cut, the RBA deployed two unconventional tools:

  1. Quantitative Easing (QE): The RBA purchased Australian Government Securities (AGS) and semi-government bonds on the secondary market, crediting sellers' Exchange Settlement Accounts. This injected reserves into the banking system, lowered longer-term interest rates, and put downward pressure on the Australian dollar. The RBA ultimately purchased approximately $281 billion AUD in bonds under its QE program.

  2. Yield Curve Control (YCC): The RBA targeted the 3-year government bond yield at 0.10% — matching the cash rate. By committing to buy as many 3-year bonds as necessary to keep yields at 0.10%, it effectively capped borrowing costs along the short-to-medium yield curve. This reinforced forward guidance that rates would stay low until conditions warranted a rise.

Phase 2: Inflation Surge and Rapid Tightening (2022–2023)

Global supply chain disruptions, strong pandemic-era demand, and the energy price shock from the Russia-Ukraine war pushed CPI inflation to 7.8% by December 2022 — far above the 2–3% target. The RBA's response was swift:

  • May 2022: First rate rise — cash rate lifted from 0.10% to 0.35% (a 25bp increase)
  • June–August 2022: Four consecutive 50 basis point (0.50%) increases
  • Late 2022 – November 2023: Further increases, ultimately reaching 4.35% — the highest cash rate in over 12 years
  • Total: 13 rate increases over 18 months, totalling a 4.25 percentage point tightening

YCC was abandoned in late 2021 when bond markets tested the target as inflation expectations rose; the RBA was unable to sustain the cap.

Phase 3: Holding and Easing (2024–2026)

With inflation gradually falling back toward the target band, the RBA held rates at 4.35% through most of 2024 while monitoring labour market and inflation data. In February 2025, the RBA cut the cash rate for the first time since the hiking cycle, reducing it to 4.10%. A second cut followed in March 2026, bringing the cash rate to 4.10% — marking the beginning of a gradual easing cycle as inflation returned toward the 2–3% target and the labour market softened slightly from its 2023 trough.

Worked Example

Scenario: Compare the cash rate path and its effect on a variable-rate mortgage (2020 vs 2023).

Mortgage size: $750,000 variable-rate, 25-year term

April 2022 (cash rate 0.10%): Approximate variable mortgage rate: ~2.5% Monthly repayment ≈ $3,360

November 2023 (cash rate 4.35%): Approximate variable mortgage rate: ~6.5% Monthly repayment ≈ $5,050

Step 1 – Calculate the monthly increase: $5,050 − \(3,360 = **\)1,690/month more** in mortgage repayments

Step 2 – Annual impact: \(1,690 × 12 = **~\)20,280/year** in additional repayments

Step 3 – Contextualise: With roughly 3 million Australian households holding variable-rate mortgages, each \(1,000/month increase across 1 million households alone represents approximately **\)12 billion/year** withdrawn from household consumption — a substantial contractionary effect consistent with the RBA's goal of slowing demand and inflation.

Conclusion: The rapid tightening cycle between 2022–2023 produced the largest single episode of mortgage stress for Australian homeowners in decades, while also being instrumental in bringing inflation from 7.8% back toward the target band.

Common Misconception

Misconception: "Quantitative easing (QE) is the same as 'printing money' — it automatically causes runaway inflation."

Correction: QE involves the RBA creating reserves (electronic money) to purchase bonds — it does expand the monetary base. However, these new reserves primarily sit in banks' Exchange Settlement Accounts rather than circulating immediately in the economy. The inflationary impact depends on whether banks lend out those reserves (increasing the broader money supply) and whether there is sufficient demand for loans. During COVID, much of the QE-created liquidity was saved rather than spent, and supply-side disruptions — not RBA money creation — drove most of the subsequent inflation. QE can contribute to inflation but does not guarantee it, and the RBA's subsequent rate hikes show it has tools to reverse the stimulus effect.

Practice Prompts

  1. What was the RBA's cash rate in April 2022, and what was it by November 2023? How many rate increases occurred between these dates? → Answer: The cash rate was 0.10% in April 2022 and reached 4.35% by November 2023 — a rise of 4.25 percentage points across 13 consecutive rate increases.

  2. Explain yield curve control (YCC) in plain language. Why did the RBA abandon it in late 2021? → Answer: YCC is a commitment by the RBA to buy whatever quantity of bonds is needed to keep a specific bond yield (e.g., the 3-year government bond) at a target level (0.10%). The RBA abandoned it in late 2021 because rising inflation expectations caused bond markets to push yields above the target. Defending the cap would have required buying unlimited quantities of bonds — increasingly incompatible with tightening policy as inflation surged. The credibility of the commitment broke down, forcing the RBA to abandon it.

  3. Why did the RBA cut the cash rate to 0.10% in 2020, and what unconventional tools did it deploy once conventional rate cuts were exhausted? → Answer: The RBA cut to 0.10% to provide maximum stimulus during the COVID-19 economic shock. With rates near zero, conventional cuts were no longer practical, so the RBA deployed: (1) Quantitative Easing — purchasing ~$281bn in government bonds to inject liquidity and lower long-term rates; and (2) Yield Curve Control — targeting the 3-year government bond yield at 0.10% to anchor borrowing costs along the yield curve.

Further Resources