The RBA increased the official cash rate again this month by 0.25 per cent pa taking it to 4.25 per cent pa. This represents the fifth increase of 0.25 per cent since the RBA commenced raising the cash rate in September last year.
The RBA has indicated on a number of occasions that the low level of interest rates it created at the beginning of 2009 (by moving the official cash rate down to three per cent pa) was no longer required as the fear of recession had passed. In September the RBA embarked on a process of ‘normalising’ the cash rate. This has been generally interpreted as meaning that the cash rate would move back to around five per cent pa over the balance of 2010. The ‘normal’ level has historically been a little higher than this, say around 5.5 per cent pa to six per cent pa, but the RBA has more recently been focusing on bank lending rates which have moved higher by around another one per cent pa than moves in the official cash rate due to cost of funding pressures experienced in the markets. Taking this into account the RBA is expected to move the official cash rate up to around five per cent pa.
There is little prospect that the RBA will not execute this strategy. The main question still relates to the pace with which the interest rate increases will come. After today’s move there is the prospect that there could be a pause for a month or two. Interest rates are still expected to increase by 0.25 per cent pa another three times over the next eight months.
The Australian economy has been performing exceptionally well and further signs of improvement in the global economy are adding to the impetus behind the Australian economy. Of particular significance is the ongoing rise in commodity prices which continues to boost Australia’s terms of trade and revenue prospects. China continues to post impressive growth numbers and its demand for our raw materials is a major factor driving Australia’s strong export performance. In the US economic growth has improved considerably over the past few quarters, albeit from a very weak starting position, and there is now encouraging news on the employment front with the dramatic job losses over the last two years having abated and job growth starting to emerge on a monthly basis. These factors are leading to improved confidence in the global recovery, which in turn is fuelling commodity price rises and the outlook for Australia.
On the domestic scene, Australia continues to experience strong employment growth. The gloomy forecast of a year ago for an 8.5 per cent unemployment rate seems a distant memory with unemployment peaking at 5.8 per cent in October and falling since then to around 5.3 per cent. Further improvements in employment, which are highly likely, could threaten to push up inflation. There have been some signs that the rate increases to date have had an impact. Consumer confidence has fallen in recent months although it is still holding up at high levels, retail sales have been up and down over recent months with the trend being basically flat for some time and housing finance has also eased back over recent months. The increases in interest rates have occurred following the passing of Government stimulus measures such as cash payments and first home buyer boost. Taken together these things seem to be having a dampening affect on some sectors of the economy.
Despite these indications the RBA has identified another source of concern that is adding to its view that interest rates need to be raised back to more historically normal levels. Australian house prices have been rising strongly over the past year and particularly in very recent months. The expectation is that they will continue to. This is due to a fundamental imbalance between demand and supply. Not enough houses are being built to satisfy the needs of the growing population, especially given the current high immigration numbers. Whilst the RBA is mainly tasked to target monetary policy to ensure low inflation and full employment it has increasingly made reference to the need to avoid a bubble in home prices. The RBA Governor, Glenn Stevens even took this message onto breakfast television recently. This is now clearly part of the monthly deliberations and another reason why the direction of interest rates is clear.
About ING DIRECT
ING DIRECT began operating in Australia in 1999. By doing business online, over the phone and through intermediaries, ING DIRECT keeps it overheads low and passes the savings onto customers in the form of competitive rates. Today, it has grown to become Australia’s fifth largest retail bank, with $21 billion in deposits, more than $37 billion in loans and around 1.4 million customers.
Important information:This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.
If you liked this article you'll love the Switzer Report, our newsletter and website for trustees of self-managed super funds. Click here for a FREE trial and to hear more of Peter’s expert commentary and advice.