Wednesday, April 04, 2007

Rates on hold, just for now.

The Coalition faces the politically dangerous likelihood of an interest rate hike during the Budget period or in the lead-up to the election following a decision of the Reserve Bank to keep rates on hold on Wednesday.

The decision, communicated to financial markets at 9.30am, came as a shock to many in financial markets. They had been pricing in a 62 per cent possibility of a hike.
Australia's dollar plunged on the news, sliding two-thirds of a cent to 80.64 US before rebounding as confidence grew that a rate rise was likely in May or in June.

The Bank’s assistant governor Malcolm Edey encouraged such thinking in MArch when he delivered a speech declaring that Australia’s inflation outlook was “higher than ideal” and that the Bank’s board would review inflation prospects “month by month”...
Late yesterday futures traders priced in a 50 per cent likelihood of an interest rate hike after the board’s May meeting and a greater probability of a rate hike after its June meeting.

The May meeting will follow the release of official inflation figures on
April 24, and the June meeting will follow wage figures due on May 17.

A hike after the May meeting would come just days before the Budget, and a hike after the June just weeks after, both potentially difficult times for a government attempting to frame and sell an economic program. The more generous the Budget the more inflationary the Reserve Bank might deem it to be.

The Prime Minister acknowledged this yesterday saying, “the Bank sets interest rates not the Government, but in order to produce the best possible climate to keep interest rates down you need experienced, balanced policies, you need strong budget surpluses, you need to pay off debt and you need a run a strong and rapidly, but not too rapidly, expanding economy. In other words it’s a very delicate balancing act.”

The Treasurer stressed the importance of keeping inflation low in order to avoid another hike. “We have to keep inflation low to ensure that the Australian economy continues to grow. And the fact that we have got pressures coming from overseas, particularly in relation to oil and petrol prices makes that harder,” Mr Costello said.

The Bank’s governor Glenn Stevens told a parliamentary committee in February that he would be prepared to push up rates in the lead up to the election, if needed.

“I do not accept and I do not think we ever could accept the idea that in an election year, which is one year out of three, we can not change interest rates. I don’t think any central bank could accept the notion that a rate change is off limits one year out of three, that would be crazy,” he said.

Asked whether that meant he might push up rates in August after the release of the eagerly awaited June quarter inflation figures he replied, “if in August if it needs to be done it will be done”.