Tuesday, April 24, 2007

Rate rises off the agenda

Interest rate rises are off the agenda for next week’s Reserve Bank board meeting and are set to stay off until after the election.

The reprieve for the Government comes after spectacularly good inflation figures showing that in the three months to March aggregate prices barely moved. The underlying inflation rate calculated by the Reserve Bank is steady at 0.5 per cent implying an annualised underlying rate of just 2 per cent.

In the early months of this year the Reserve Bank became alarmed at what it saw as signs of an acceleration in economic growth not yet reflected in the official inflation figures. But two well-behaved inflation figures in a row have convinced it that the strong growth is not flowing through into prices...

Inflation appeared to peak in the September quarter last year and is now heading lower, notwithstanding healthy non-farm economic growth.

Next Tuesday’s Reserve Bank board meeting will be told that all of Australia’s economic indicators are pretty much where the bank would want them to be, albeit with economic growth a touch on the high side.

Financial markets yesterday cut their estimate of the probability of a rate rise after Tuesday’s meeting from 50 per cent to close to zero. The Australian dollar slid almost one complete cent from $US83.4 cents to $US82.4.

The Reserve Bank’s assistant governor Malcolm Edey put the markets on high alert last month when he delivered a speech in Sydney declaring that Australia’s inflation outlook was “higher than ideal” and that the board would review inflation “month by month”.

The Bank delivered that warning because wanted to nip in the bud what it feared would be a resurgence in inflation. It is now of the view that that that resurgence is no longer a danger.

The Bank board will keep interest rates on hold at its meetings in May, June and July. It will examine the next quarterly inflation figures at its meeting in September, but does not expect figures bad enough to justify a hike in rates.

That will mean no interest rate hike before the election expected in October, and most probably no interest rate hikes this year.

Interest rates have increased four times since the 2004 election fought and won by the Coalition on a promise of “keeping interest rates low.” The typical repayment of a $400,000 mortgage is now $260 per month higher.

If the Coalition is hoping for an interest rate cut before this year’s election to ease some of that pain, it will be disappointed. The Bank believes that although Australia’s rates are high by international standards they cannot be cut while the economy retains its present strength.

Australia’s headline inflation result was pushed toward zero by a return to normal in banana prices one year after Cyclone Larry destroyed crops in far north Queensland. Banana prices fell 73 per cent in the first three months of this year, driving down the index of fruit prices by 34 per cent, enough by itself to knock 0.5 percentage points off the headline inflation rate.

The higher Australian dollar also helped, contributing to a cut of 3.3 per cent in furniture prices and 1.7 per cent in holiday prices.

Pushing the other way were increased rents (up 1.4 per cent) and higher home purchase costs (up per cent). Childcare costs soared 5.4 per cent in the three months, and are up 13 per cent over the year.

The Families Minister Mal Brough insisted yesterday that the official figures didn’t tell the whole story, saying they left out the effect of the Child Care Tax Rebate , worth up to $4,000 per child, per year.

But the rebate is received by families with children in care more than 18 months after their out of pocket expenses, often at times when their children are no longer in care.

The Treasurer Peter Costello welcomed the good news on inflation saying the rate was “well within the band that we are targeting”. He said the inflation that had been building towards the middle of last year “seemed to have decelerated”.