Divining the rates oracle

CENTRAL bankers are renowned for making obscure comments that market watchers struggle to un-ravel.

Australia’s Reserve Bank may be trying to break the mould judging by the relative clarity of its recent pronouncements.

In a speech delivered last week, Governor Ian Macfarlane explained that weak international share markets and Australia’s overheated housing market were two of his main worries.

He also reaffirmed the Reserve Bank’s intention to lift rates to a “normal [or neutral]” level.

That means rates will increase by about 1 per cent from current levels, according to HSBC chief economist John Edwards.

Mr Edwards predicts the Reserve Bank could start lifting rates as soon as next month but is more likely to wait until its October board meeting.

Mr Macfarlane said the Reserve Bank’s policy settings needed to be responsive to unexpected events, such as the weakness in global share markets.

“There has been more focus on equity markets over the past two years than any other time I can recall in the post-war period,” he said.

“Most of the focus is on the United States, but European markets have fallen just as far.

“Falls in equity prices are principally a concern to us because of the risk they pose to global economic recovery.

“The most obvious channel is through wealth effects to consumers, but business spending is also vulnerable to the rising cost of equity capital.”

Mr Macfarlane stressed that these risks came from international markets, not the domestic market.

“We in Australia have been very fortunate in the current expansion in not having a boom or a bust in asset prices – the closest we come to such a situation would, I suppose, be the large rises that have occurred over the past five years in house prices,” he said.

And this is a situation the Reserve Bank is not entirely comfortable with.

“While it may give home owners a happy feeling, we cannot help but also think of the people – mainly in the younger age groups – who aspire to own a home, but are finding it increasingly difficult to do so because rising prices are putting home ownership out of their reach,” Mr Macfarlane said.

He readily acknowledged that this wealth distribution issue “is not something that can or should be directly addressed by monetary policy”.

Mr Macfarlane also suggested that housing prices may soon become more affordable.

The rapid growth in in-vestment loans, rising vacancy rates, stagnant or falling rents and a large increase in new supply all pointed to “the likelihood of a shakeout in the market, at least in the major cities”, he said.

“If that is to occur, it is better that it occur sooner rather than later.”

Mr Macfarlane emphasised that the overheated housing market was not a key driver of monetary policy.

“As always, monetary policy has to be directed towards how the average of the whole economy is evolving, not to what a particular sector is doing,” he said.

In that regard, he made it clear that Australia’s economy ranked as one of the best performers anywhere in the world.

“The Australian economy is in that small group of countries that can rightly be described as operating in a normal or healthy way; in fact, in many ways, we are the best example around at present,” Mr Macfarlane said.

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