Thursday, October 27, 2011

Rate Cut Tuesday: Why the Bank will move

The Reserve Bank will deliver interest rate cuts worth $49 per month to typical mortgagee households at its board meeting next Tuesday.

The 0.25 point cut - the first in more than two years - will be sold as ‘a small calibration’ rather than the first in a series.

It will take the Bank’s cash rate from 4.75 to 4.50 per cent, and bring Westpac’s standard variable mortgage rate back to 7.61 per cent and the National Australia Bank’s rate back below 7.5 per cent if fully passed on.

Treasurer Wayne Swan yesterday warned the banks not to use the European debt crisis as an excuse to withhold some of the cut.

“There would be absolutely no excuse for the banks not to pass on any rate cut that was delivered by the Reserve Bank should they chose to do so, absolutely none whatsoever,” he said.

One year ago on Melbourne Cup day each of the big four banks imposed near double rate hikes after the Reserve Bank lifted rates, infuriating the Treasurer and citing increased costs. If the banks do no more than fully pass on the Reserve’s cut on Tuesday their rates will remain well above November 2010 levels even though the Reserve Bank’s rate will be back to its previous level.

Consumer price figures released yesterday dramatically revised down the official picture of inflation giving the Reserve Bank room to switch settings from ‘mildly restrictive’ to ‘neutral’.

While official inflation rate slipped from 3.5 per cent to 3.6 per cent, two of the measures most closely watched by the Bank slipped to 2.3 per cent - well within and toward the bottom of the Bank’s 2 to 3 per cent target band...

Those measures are the consumer price index excluding volatile items and so-called trimmed mean that excludes both the strongest and weakest price movements.

Whereas the Bank had been forecasting an inflation rate well above 3 per cent for the next two years its new forecasts to be released Friday week will have inflation closer to 2.5 per cent.

Bank staff believe that with inflation set to stay around the target, with economic growth at the long term trend and unemployment broadly steady there is no need to keep interest rates mildly restrictive. Lending rates are at present around 30 percentage points above their long term averages. A cut in the Reserve Bank’s cash rate would return them to near those averages.

All but two of the 12 market economists surveyed by the Herald/Age now expect the Bank to cut its cash rate on Tuesday. One, former prime ministerial advisor Stephen Koukoulas believes there’s a chance of a double rate cut.

“The only debate now is whether we get 0.25 points or 0.50 points. The inflation rate is low at a time when the global economic conditions are deteriorating. Will they do 0.25 and then another 0.25 in February or start off with 0.50 to try and make sure we don’t have anything less than a slowdown in 2012?”

Mr Koukoulas was the only market economist to correctly predict the underlying quarterly rate of inflation would be a mere 0.3 per cent in the September quarter, just half the dominant forecast of 0.6 per cent.

Most prices pressure were muted in the quarter with utility charges and holiday travel the only big exceptions. Annual price rises pushed up electricity charges 7.8 per cent, water charges 8.6 per cent and property rates 5.2 per cent. Overseas travel jumped 5.1 per cent.

Fruit prices slipped 1.2 per cent in the wake of Cyclone Yasi and vegetable prices 2.5 per cent. Milk was down 10 per cent over the year and audio visual and computing software down 20 per cent.

Published in today's SMH and Age

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