Wednesday, November 07, 2007

The Governor is in one corner, the PM is in the other

Australia’s Reserve Bank has taken aim at the central theme of the Coalition’s reelection campaign while delivering Australia’s first-ever pre-election rate rise.

The increase of 0.25 per cent announced early yesterday takes the Bank’s so-called cash target to 6.75 per cent, its highest for eleven years.

It will lift the standard bank variable mortgage rate to 8.57 per cent, adding an extra $67 to the monthly cost of servicing a $400,000 loan.

In announcing the increase the Reserve Bank Governor Glenn Stevens warned that inflation was heading beyond the Reserve Bank’s 2 to 3 per cent target zone and said that growth in aggregate demand would “need to moderate if inflation is to be kept to be kept to 2 – 3 per cent in the medium term"...

The message was at odds with the Coalition’s reelection slogan “Go for Growth” launched by the Prime Minister as he unveiled $34 billion worth of tax cuts at the start of the campaign.

The slogan, which has formed the backdrop to every prime ministerial press conference since then, was sidelined as the Prime Minister responded to the Reserve Bank’s announcement yesterday, replaced as a backdrop by a large painting of the Australian flag.

The Bank warned that economic growth had accelerated throughout 2007 and that it saw “few signs of that strength diminishing as yet”. By March next year inflation was likely to be above 3 per cent.

The Prime Minister said there was nothing in the statement critical of his election campaign spending. “I looked for that, and I couldn’t find anything in the statement that said that fiscal policy has become too loose,” he said.

Indeed he said the Reserve Bank had given a “big tick to the Government’s industrial relations policy, and a big warning sign to any change in that industrial relations policy”.

But in fact the statement said nothing about the competing policies. It limited itself to the observation that “growth in labour costs has been contained so far”.

During the last election the Bank complained to both the Liberal Party and the Electoral Commission about what it felt were attempts by the party to falsely assert that its claims had the Bank’s backing.

In yesterday’s statement the bank took issue with two statements made by the Prime Minister and Treasurer in the early days of the campaign. It dismissed as unreliable the Government’s preferred measure of inflation - the low so-called headline rate - because it had been held down by “two very low quarterly results nearly a year ago”.

It also dismissed concern that Australia faced a “huge tsunami of instability” raised by the Treasurer. It said it expected the world economy to grow at an above-average pace during 2008 led by strong growth in China and other parts of Asia. High global commodity prices would remain an important source of stimulus to Australian spending and activity.

The Bank’s concern about the pace of economic growth and inflation was read by financial markets as a sign that another interest rate rise would be forthcoming, perhaps as soon as next month, after the board’s December meeting.

By late yesterday the market had factored in a 32 per cent likelihood of another rate rise next month, and a near 100 per cent likelihood of another increase by the middle of next year.

Both the Prime Minister and Treasurer said they were “sorry” for the interest rate rises, the Prime Minister adding that he regretted the additional burden that will be faced by the borrowers of Australia.