07/10/2008 - 14:45

More 2008 rate cuts likely: economists

07/10/2008 - 14:45

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The Reserve Bank of Australia may cut interest rates again by Christmas, after deciding to lower the cash rate by a surprising 100 basis points for the first time in 16 years, economists said.

More 2008 rate cuts likely: economists

The Reserve Bank of Australia may cut interest rates again by Christmas, after deciding to lower the cash rate by a surprising 100 basis points for the first time in 16 years, economists said.

The RBA board today voted to reduce the rate to six per cent, from seven per cent, taking it back to where it was in November 2006.

It was the first 100 basis point easing since May 1992 and surprised financial markets, which had expected a 50 basis point cut.

RBA governor Glenn Stevens said in a statement that a bigger than usual rate cut was needed to bring down borrowing costs and help Australia weather a downturn in the global economy.

"The board also took careful note of movements in funding costs in wholesale markets," he said.

"Having weighed these considerations, the board decided that, on this occasion, an unusually large movement in the cash rate was appropriate in order to bring about a significant reduction in costs to borrowers.

"The board does not, however, regard that movement as establishing a pattern for future decisions."

Mr Stevens said a slowdown in global growth and tight credit market conditions would help bring down inflation over time.

But it could also cause demand and output to weaken by more than previously expected.

"The recent deterioration in prospects for global growth, together with much more difficult market conditions even for creditworthy borrowers, now present the risk that demand and output could be significantly weaker than earlier expected," he said.

"Should that occur, inflation would most likely fall faster than earlier forecast."

St George chief economist Besa Deda said the RBA could cut rates again before Christmas, perhaps next month.

"It's taken the market by surprise but it's a wise move given the deteriorating credit market that was occurring," she said.

"They're just trying to get a firm handle on this and protect the economy.

"I wouldn't rule out another 25 basis point easing (in 2008) ... but it's more data dependent, depending on how the credit crisis works out."

The major commercial banks matched the RBA's 25 basis point rate cut in September, the first in seven years.

But there are no guarantee the banks will match the RBA's move this time.

Ms Deda said the RBA was no longer so worried about inflation - now running at an annualised 4.5 per cent - and would watch to see how demand growth fared.

"The funding pressures in the market are very elevated at the moment," she said.

"The difficult wholesale market conditions are weighing on global growth.

"It's not a story unique to Australia."

Other central banks, including the US and UK, are reportedly considering a co-ordinated rate cut, Ms Deda.

The Australian dollar fell 1.6 US cents in the minutes after the RBA announcement at 1430 AEDT, to 70.36 US cents, but it has since risen back above 72 US cents.

RBC Capital Markets senior economist Su-Lin Ong said she was in a "little shock" after seeing the size of the RBA rate cut.

"I was not looking at a 100 point cut this afternoon," she said.

"The RBA has decided to move very aggressively.

"It is driven really by the sharp deterioration in the financial and credit markets over the last month, and the implication for global growth."

Ms Ong said it was significant that the RBA had mentioned in its accompanying statement the moderation of economic growth for Australia's trading partners in Asia.

The nation's terms of trade has been boosted recently due to surging exports to Asia, particularly China.

"The key here is that they are trying to prevent a sharper slowdown in the Australian economy," she said.

"Clearly the global developments are posing downside risk to growth."

The rate move today was about bringing down key lending rates, Ms Ong said.

"It is not movements in official cash that matter," she said.

"It is what borrowers borrow at.

"Given the increased pressures on banks, the RBA knows this is not going to be passed on fully."

The cash rate was probably heading south again soon, due to the sluggish economic climate, Ms Ong said.

"There is nothing in the statement to suggest the RBA won't move again," she said.

"The risk for cash is it is going to need to go a stimulatory level," she said.

"We are heading towards five per cent, maybe lower over the next six to 12 months."

ANZ Banking Group Ltd chief economist Saul Eslake welcomed the massive rate cut by the RBA.

"I would describe today's move as extraordinary and bold," Mr Eslake said.

"They are clearly very concerned about the financial crisis and its potential impact on global growth, on Asian economies which they specifically mention, and on commodity prices.

"They've reduced their concern about the outlook for inflation and they are obviously much more concerned than they were a month ago about the downside risks to the Australian economy."

Mr Eslake said he hoped the RBA decision would not be interpreted as panic.

"I think it will be seen firstly as contributing to the health of the financial system and a big step to reducing the downside risks to economic growth, provided it isn't interpreted as panic," Mr Eslake said.

"There's a risk of that, but I hope it is not interpreted in that way and it is not a criticism on my part."

Mr Eslake said he believed the RBA had accelerated its planned monetary policy easing in response to the turmoil on global financial markets.

"I think it lessens the likelihood of further reductions in interest rates anytime soon, because I think they brought forward what they might have been planning to do over a longer period," Mr Eslake said.

Macquarie Group senior economist Brian Redican said today's decision by the RBA reflected a deterioration in the global outlook since its last board meeting on September 2.

"It's certainly an extraordinary move from the Reserve Bank," Mr Redican said.

"It's a testament to the Reserve Bank's flexibility that they've been able to get rates down this aggressively.

"It's probably a sign of things to come from other central banks that have been sort of dilly-dallying over whether they should be cutting at the moment given that inflation is high."

While the RBA it did not regard today's 100 basis point cut as "establishing a pattern for future decisions", Mr Redican said he expected further monetary policy easing in the period ahead.

"Although the Reserve Bank has warned that it won't be cutting rates by 100 basis points again next month, I certainly do think that there's considerable scope to get rates lower," Mr Redican said.

"The Reserve Bank had policy a lot tighter than other central banks, so there was a clearer argument to get rates back towards the neutral level pretty quickly and I suppose that's important to remember looking forward."

 

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