Wednesday, April 21, 2010

To normal and beyond - the RBA's interest rate path

Hold on

The Reserve Bank isn't done with us yet. The minutes of the April board meeting at which it pushed up its cash rate for the fifth successive time show its members believed the rate would "probably need to rise further," and quickly.

Since October the Bank has pushed up its cash rate from 3 to 4.25 per cent, lifting the typical standard variable mortgage rate from 5.8 per cent to more than 7 per cent and adding $240 to the monthly cost of servicing a $300,000 mortgage.

The minutes make clear that the Bank has been taken by surprise by sudden surges in coal, iron ore and gas prices, saying Australia's terms of trade are now likely to increase far faster than forecast in February driving "strong growth in nominal incomes". While this would benefit Australia it would "also pose challenges."

The wording suggests the bank is in the process of sharply revising up its forecasts for economic growth and its assessment of how high rates need to climb... They suggest that the Treasury is also revising up Budget forecasts.

Unusually the April minutes explicitly cite the "noticeably stronger than expected" jump in the terms of trade as a key reason the Board decided "it would not be prudent to delay" a hike.

They also express concern about a housing market where prices continue to climb despite near-continuous rate rises.

Singling out for blame state governments, local governments and banks they say on one hand "population growth was strong, households had confidence about future income growth, and mortgage rates were at below-average levels," but on the other "the supply of new housing was not expanding sufficiently, partly because of the land usage policies of local and state governments and also because of the tightness of finance for developers".

Although the Bank describes its April hike as "a further step in the process of returning interest rates to more normal levels," they raise the prospect that the Bank will soon feel impelled to push them beyond normal.

"The Bank looks likely to upgrade its outlook for the economy in May," said NAB economist Rob Henderson. "That means rates will need to be above normal."

Commonwealth Bank economist John Peters said he wouldn't be surprised if the cash rate climbed from its present 4.25 per cent to 6 per cent by the end of next year.

"Rocketing iron ore and coal prices have given the Reserve an upbeat view of growth prospects. We still see the cash rate at 5 per cent by the end of the year, but beyond that the Bank will move to a contractionary stance."

A cash rate of 6 per cent would lift the standard variable mortgage rate to around 8.8 per cent, somewhat higher than the 8.57 per cent charged when the Coalition left office but below the peak of 9.36 per cent reached in late 2008.

It would add a further $340 to the monthly cost of repaying a $300,000 mortgage, bringing the total extra monthly impost since October to $580.

Published in today's SMH and Age

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Anonymous said...

Looking increasingly likely the next big cock up on Rudd's nose will be all these first home buyers he suckered in by the dangling carrot grants at a time of emergency low interest rates. I'd hazard to guess that more than 50% of them will be truly struggling after mortgage rates hit 8%. Ruddprime is going to really hurt the banks.

Senexx said...

It would seem the RBA is wrong

The Stats are clear.

The RBA is assuming b/c the house prices are rising, more money is entering the economy and thus rates need to be raised. They appear to be wrong. See the link above for current Housing Stats.

With those stats actually being the case it suggests that people are spending well beyond their means and will soon find themselves on struggle street again if the RBA continues to raise rates.

I can think of any number of reasons people may be doing this. Investment, even including owner occupied housing, after all real estate nearly always goes up. That may change depending on the Henry report.

They could genuinely need their own housing and are prepared to pay any price to get it near existing services and make the necessary sacrifices to achieve their end.

There is any number of reasons but the one thing that is clear is the RBA is wrong.

Following the likely mortgage rate to the levels a 6% cash rate rise would mean, suggests to me that the RBA is again playing politics by attempting to show they're not in the current Government's pockets after the last election suggested they were (even though this didn't necessarily mean it was so)

Then there is the static employment figure of 5.3% for the last few months, again indicating no rise is necessary (and nor were the rest).

carbonsink said...

"real estate nearly always goes up"

Its exactly this kind of thinking that has the RBA hiking rates every month. Mind you, domestic monetary policy is becoming increasingly ineffective at cooling house prices. New housing finance is down five months straight, and the banks are raising LVRs, but house prices are rocketing. Its a puzzle. Initially I thought the "cashed up Asian buyers" story was xenophobic nonsense, but now I'm not so sure.

The Chinese are certainly buying up farms!

Anonymous said...

The relaxation of the foreign investment rules has been a very bad decision by the Rudd government which is and will continue to make housing affordability even worse in this country. People who work hard should be able to own their own home without being up to their eyeballs in debt. Where is the media in talking about this point?

Anonymous said...

Agree anon. FIRB rule changes would have meant little if the countries now vying for a piece of Australia had small numbers of potential buyers.

But China + India have about 3Billion. If 0.1% of Indian and Chinese(upper middle class/wealthy) decide to apply themselves of this soverign sell-off, then 3B/1000 is say 3 million customers.

Good for RE sales, bad for any sense of community.

Agree, the media is a pro stable community then it should be all over this like a rash.

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