Wednesday, February 08, 2012

Why the Reserve sat on its hands, why the banks might not

Denied an interest rate cut, mortgage holders may soon be hit by a rate increase as the ANZ bank prepares to announce an interest rate move independent of the Reserve Bank this Friday.

The Reserve Bank board’s decision to sit on its hands rather than cut rates as the market expected pushed up the Australian dollar up more than a cent to 108.12 US, the first time it has traded above 108 cents since August.

Dealers say if the board’s decision is followed by good news on Greek debt negotiations the dollar could sail past its post-float record of 110.81 set last July.

‘The big risk event was the Reserve Bank, now that they didn’t cut, it will be hard to cut this trend,” said Easy Forex currency trader Tony Darvall.

The Bank board defied expectations because it believes the global economy and financial markets are marginally more healthy than when it last met and cut rates in December.

“Share markets have risen and term funding markets have re-opened, including for Australian banks, albeit at increased cost,” said Reserve Bank governor Glenn Stevens in a statement.

The meeting was told the latest National Australia Bank survey had business conditions at about their long-term average, although the circumstances varied widely from industry to industry.

While the high Australian dollar was making life very difficult for some industries, including retailing, the once in a century resource investment boom was boosting others.

The Bank is not persuaded by figures showing no growth in employment over the past year, noting that job vacancies, job advertisements and business hiring intentions all improving and the unemployment rate has not yet moved up.

Mr Stevens said the bank stood ready to cut rates “should demand conditions weaken materially”...

Inflation was exactly where the Reserve Bank wanted it. Underlying inflation was in the centre of the Bank’s target band at 2.5 per cent. Were it not for the effect of the carbon tax, which the Bank will ignore in setting rates, inflation was likely to remain within the 2 to 3 per cent target band for the next two years.

“The Bank has taken the view that it can afford to still sit for now and keep its powder dry.,” said former Reserve Bank economist Paul Bloxham at HSBC Australia.

“The domestic economy is still in good shape, and last year's cuts will start to provide support for some of the more interest-rate sensitive sectors. The future path for rates will mostly be driven by the global economy.”

The ANZ’s rate setting committee will meet on Friday to make good on its promise to adjust rates monthly independently of the Reserve Bank.

Banking analyst Brett Le Mesurier at BBY Limited said a rate increase on Friday was “a real possibility”.

“Offshore funding accounts of 20 per cent of their lending. It costs much more than it did in December. What its done to their total costs is hard to tell. At a minimum it has probably added 0.10 percentage points,” he said.

If the ANZ moves on Friday the other banks will be likely to follow, adopting a new pattern of adjusting rates independently of the Reserve.

The National Australia Bank yesterday pledged to offer the lowest mortgage rate of the big four for all of 2012.

“We acknowledge a tougher world economy is presenting uncertainty for many customers,” said personal banking executive Lisa Gray. “NAB will provide that certainty by announcing our ongoing commitment to having the lowest of the big four standard variable rates.”

Published in today's Canberra Times, Sydney Morning Herald and Age


Date 7 February 2012
For Immediate Release

Statement by Glenn Stevens, Governor: Monetary Policy Decision

At its meeting today, the Board decided to leave the cash rate unchanged at 4.25 per cent.
Information becoming available since the December meeting confirms that economic conditions in Europe were weakening late last year, with risks still skewed to the downside. Reflecting this, most forecasters have lowered their forecasts for world GDP growth this year to a below trend pace. That said, recent data from the United States suggest a continuing moderate expansion after a soft patch in mid 2011. Growth in China has moderated as was intended, but on most indicators remained quite robust through the second half of last year. Conditions around other parts of Asia have softened. Commodity prices declined for some months to be noticeably off their peaks, but over the past couple of months have risen somewhat and remain at quite high levels.

The acute financial pressures on banks in Europe were alleviated considerably late in 2011 by the actions of policymakers. Much remains to be done to put European sovereigns and banks on a sound footing, but some progress has been made. Financial market sentiment, though remaining skittish, has generally improved since early December. Share markets have risen and term funding markets have re-opened, including for Australian banks, albeit at increased cost compared with the situation prevailing in mid 2011.

Information on the Australian economy continues to suggest growth close to trend, with differences between sectors. Labour market conditions softened during 2011 and the unemployment rate increased slightly in mid year, though it has been steady over recent months. CPI inflation has declined as expected, as the large rises in food prices resulting from the floods a year ago have been unwinding. Year-ended CPI inflation will fall further over the next quarter or two. In underlying terms, inflation is around 2½ per cent. Over the coming one to two years, and abstracting from the effects of the carbon price, the Bank expects inflation to be in the 2–3 per cent range.

Credit growth remains modest, though there has been a slight increase in demand for credit by businesses. Housing prices showed some sign of stabilising at the end of 2011, after having declined for most of the year. The exchange rate has risen further, even though the terms of trade have started to decline. This is largely a reflection of a decline in the euro against all currencies. Nonetheless, the Australian dollar in trade-weighted terms is somewhat higher than the Bank had previously assumed.

At today's meeting, the Board noted that interest rates for borrowers have declined to be close to their medium-term average, as a result of the actions at the Board's previous two meetings. With growth expected to be close to trend and inflation close to target, the Board judged that the setting of monetary policy was appropriate for the moment. Should demand conditions weaken materially, the inflation outlook would provide scope for easier monetary policy. The Board will continue to monitor information on economic and financial conditions and adjust the cash rate as necessary to foster sustainable growth and low inflation.




WHY THE RESERVE SAT ON ITS HANDS

National Times, February 7

What do you do when things are broadly as they should be? Nothing. You sit on your hands. It’s called masterly inaction, and our Reserve Bank is rather good at it.

It kept rates steady for 11 months from November 2010, for 14 months from December 2003.

It was difficult. Financial markets make money from volatility and were forever punting it would move one way or the other.

Here’s the key sentence from the governor Glenn Stevens’ statement released after this morning’s board meeting:

“With growth expected to be close to trend and inflation close to target, the board judged that the setting of monetary policy was appropriate for the moment.”

Not straightforward enough?

Unemployment is a little above 5 per cent. That’s close to trend. Underlying inflation is close to trend.

In the governor’s words:

“Information on the Australian economy continues to suggest growth close to trend, with differences between sectors. Labour market conditions softened during 2011 and the unemployment rate increased slightly in mid year, though it has been steady over recent months. CPI inflation has declined as expected, as the large rises in food prices resulting from the floods a year ago have been unwinding.”

The bank believes underlying inflation is “around 2.5 per cent” - right in the middle of its 2 to 3 per cent target band.

And for the future: “Over the coming one to two years, and abstracting from the effects of the carbon price, the Bank expects inflation to be in the 2 to 3 per cent range.”

Interest rates are also about where they would be. As the governor says: “interest rates for borrowers have declined to be close to their medium-term average”.

Inflation is happens to be low enough to allow the Bank to cut rates below their long term average, but not low enough to require it to do so.

In its words: “Should demand conditions weaken materially, the inflation outlook would provide scope for easier monetary policy”. But things haven’t, so it won’t, yet.

Things have worsened in Europe “with risks still skewed to the downside”, but “some progress has been made” in alleviating the resulting financial pressures on banks. Just in the past two weeks our own banks have been able to source money more cheaply.

Commodity prices are climbing back a bit after falling sharply. The US economy is picking up and China is slowing “as intended”.

It’s a good time for sitting on hands, if you’ve got the patience. But the Bank’s ready to move when needed. Don’t doubt it.



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