The Reserve Bank Board has left official rates at 4.25 per cent. Last year the Reserve Bank cut rates at both the November and December meetings, each by 25 basis points. The next meeting is on May 1 2012.
The Reserve Bank left the door open for a further rate cut. Policy makers acknowledged that “the pace of output growth to be somewhat lower than earlier estimated” but felt it “prudent” to wait on the upcoming inflation data before easing monetary policy.
What does it all mean?
The case for a rate cut was certainly compelling – especially given the sluggishness in retail activity, higher Aussie dollar, and slump in home construction. In addition the monthly inflation data has consistently confirmed that inflation is subdued. But in the end, the Reserve Bank decided to keep its powder dry.
From an economic sense interest rates are near long-term averages, inflation is in the middle of the target band, economic growth is near trend and monetary policy is effectively at neutral – not stimulating or restricting activity. However given that an array of sectors are finding conditions difficult, it seems the reason to hold off on a rate cut is more a strategic decision based on timing rather than if another rate cut is warranted. In fact the Reserve Bank went as far as to suggest that growth was “somewhat lower than earlier estimated”.
In recent weeks speeches by Reserve Bank officials including the Governor seem to suggest that policy makers are starting to feel more comfortable with current global economic. And that view was clearly echoed in the latest statement – especially given the ongoing signs of stability in Europe.
The focus is now shifting to the challenges that the Australian economy is likely to face. And front and centre is the significant structural adjustment that is taking place across the economy. It is clear that the Reserve Bank is focused on ensuring that the Australian economy is able to deal with the structural shift that is taking place as a result of the high terms of trade and accompanying high exchange rate.
Interesting the statement focused on the slowdown in China. From the Reserve Banks perspective China is likely to be a watching brief. If activity levels slow dramatically and commodity prices weaken the Reserve Bank will be less hesitant to cut interest rates.
Board members remain generally optimistic about the medium term outlook for the domestic economy, but given the near term weakness a further rate cut would provide a much need boost to confidence. And even the latest statement seems to suggest that the Reserve Bank clearly maintains an easing bias.
The key phrase of the statement was: “The Board’s view was also that, were demand conditions to weaken materially, the inflation outlook would provide scope for easier monetary policy.” In fact if the inflation data released on April 24 comes in at or below 0.7 per cent for the March quarter, it should provide the Reserve Bank with additional degree of comfort and allow policy makers to cut interest rates by 25 basis points in May.
Interest rate decision and past cycles
The Reserve Bank Board has left the cash rate at 4.25 per cent for the third month after previously electing to cut rates at both the November and December meetings, each by 25 basis points. (The Reserve Bank Board doesn’t meet in January). The Reserve Bank had previously lifted rates seven times from October 2009 to November 2010 – a total of 1.75 percentage points, from 3.00 per cent to 4.75 per cent.
In the last rate-cutting cycle the cash rate fell to a low of 3.00 per cent in April 2009. In the previous rate-cutting cycle the cash rate fell to 4.25 percent in December 2001. In the two previous rate-cutting cycles, the cash rate fell to lows of 4.75 per cent.
The Reserve Bank now looks more closely at the variable housing rate to gauge how close rates are to “normal”. Currently the average bank variable housing rate stands at 7.40 per cent, broadly in line with the long-term average or “normal” rate of 7.20 per cent.
What are the implications of the decision?
The Aussie dollar has potential to track considerably higher in coming months. Our CBA currency strategists expect the dollar to head toward US108c by the end of June. While good news for overseas travellers and consumers buying goods on the internet, it is bad news for Aussie businesses. At present there is no new stimulus for the economy and the higher dollar is going to make life tougher for Australian industry.
Clearly the risk is that more businesses will have to shed staff, unable to compete with a dollar perched at these lofty levels.
Lower interest rates would have served to boost the competiveness of shares and property compared with cash-based investments and bonds. But even in the absence of rate cuts, investors should have confidence to embrace the opportunities available across a range of asset classes.
Savers are big winners from the latest rates decision. Currently banks are offering 5.40 per cent on a 90-day term deposit at a time when the cash rate stands at 4.25 per cent and the 3-year swap rate stands near 4.1 per cent.
CommSec continues to expect one further rate cut from the Reserve Bank. At this stage we are factoring in a move in May, after the next inflation figures.
If interest rates are cut next month and global financial markets continue to settle then businesses and consumers will have more confidence to spend, borrow, invest and employ. We expect that home building will lift over 2012 in response to tight rental vacancy rates, low interest rates, a firmer job market and rising migration.
