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Wednesday, November 05, 2008

Expect more cuts, and more again

The Reserve Bank is set to cut interest rates by a further 0.50 percentage points within weeks after its most aggressive series of cuts since the 1991 recession.

A surprise cut of 0.75 points – the third in three months – has brought the total cut in the cash rate since September to 2.00 percentage points, undoing almost five years of rate hikes.

If fully passed on the cuts would slash the standard bank variable mortgage rate to 7.6% from 9.6%, taking $400 a month off the cost of servicing a $300,000 loan.

The further cut expected in December would bring the total saving to $500.

Whereas the statement accompanying the Reserve’s October cut of 1.00 points warned that the Bank did not regard it “as establishing a pattern for future decisions”, Tuesday’s announcement included no such caution...

Instead, the Bank invited speculation about further cuts by saying it would “continue to monitor developments and make adjustments as needed to promote sustainable growth”.

Treasurer Wayne Swan said the Bank took the action to protect families and businesses from an “ugly” global financial crisis.

“The statement from the Reserve underscores the extent to which that global crisis is impacting now on this country. We are certainly not immune,” he said.

Mr Swan will this week release the Mid Year Economic and Financial Review, which is expected to show that the crisis will cut corporate tax and capital gains tax revenue by as much as $10 billion a year, destroying much of the budget surplus.

The Treasurer said that the $10.4 billion fiscal stimulus package due to hit wallets from December and the 2.00 point rate cut showed fiscal policy and monetary policy working in tandem in order to prevent a recession.

“I do expect to see positive growth, and when the outlook is published you will see the government’s forecast,” he said.

The Reserve Bank statement painted a picture of an economy in decline saying that spending and activity would be “weaker than earlier expected” as a result of “deteriorating” international conditions.

Growth in Australia’s key market, China was slowing, contributing to further falls in world commodity prices”.

“The thing that struck me the most about the Reserve Bank’s statement was the absence of any moderating commentary,” said ICAP Securities economist Adam Carr. “The Bank is clearly very worried by the global economic backdrop and the impact it will have domestically.”

The Commonwealth Bank – Chamber of Commerce quarterly survey released ahead of the rate decision showed business confidence at its lowest ebb since the survey began in the early 1990s.

The index of current conditions fell to 41.1 from 60.9 a year before.

News of the rate cut boosted the All Ordinaries 200 index 40 points. It was down 46 points before the announcement and closed the day down just 6 points. The Australian dollar dived from US67.2 cents to a low of US66 before steadying at US66.30.

Forecasters from JP Morgan, Citibank, UBS and TD Securities are all expecting a further cut of 0.50 points when the Bank board next meets on December 2.

Most expect a further 0.75 points of cuts beyond that bringing the cash rate down from today’s 5.25% to a historic low of 4.00% next year.

Commonwealth Securities raised concern that the Bank might be easing too quickly suggesting that the residential property market “could quickly build up a head of steam”.

“Not only is population growth the fastest in 20 years but the rental market is super-tight and there’s an under-supply of new homes,” said CommSec economist Craig James.