20th February 2015 by LauraParsons
On February 3rd, the Reserve Bank of Australia (RBA) cut its benchmark interest rate by 25 basis points. This was in response to tanking oil prices and the global inflationary downtrend this sparked. The news was somewhat surprising because RBA policymakers had been promoting a period of interest rate stability for a considerable time. After complaining that the ‘Aussie’ (AUD) was overvalued, the RBA will may also have viewed the cut as a good opportunity to devalue the asset.
In its announcement of a rate cut, the RBA said: ‘The Australian Dollar has declined noticeably against a rising US Dollar over recent months, though less so against a basket of currencies. It remains above most estimates of its fundamental value, particularly given the significant declines in key commodity prices. A lower exchange rate is likely to be needed to achieve balanced growth in the economy.’
The RBA added that it expected the Australian economy to operate ‘with a degree of spare capacity for some time yet.’
Although the Australian Dollar softened considerably in the immediate aftermath of the announcement, the resilience of the South Pacific asset saw losses clawed back. This can be attributed to demand for gold seeing continued support for the ‘Aussie’.
However, further easing in order to force the devaluation of the domestic currency may not be a possibility for the RBA, who have already questioned the manoeuvre’s effectiveness. ‘The economy needs a bit more growth than we currently have,’ RBA Governor Glenn Stevens told a parliamentary panel in Sydney today. ‘The board is also very conscious of the possibility that monetary policy’s power to summon up additional growth in demand could, at these levels of interest rates, be less than it was in the past.’
Not all agree that there is no further room for policy adjustment, however. ‘The door is certainly open to further rate cuts if the board thinks the economy needs an extra nudge along,’ said Michael Blythe, chief economist in Sydney at Commonwealth Bank of Australia who predicts another reduction in March. ‘There is no strong guidance on the timing’ in Stevens’ comments.
Further policy easing would come with potential difficulties however, most notably the risk of exacerbating a housing bubble in Sydney. Around a week after the first rate cut, Stevens described Sydney’s property market as ‘very concerning’.
The general rise in mortgage activity since the rate cut has been ‘phenomenal’ in accordance with Oracle Lending Solutions managing director Angelo Benedetti, who said; ‘The light’s turned on in a lot of people’s heads and the recent rate reduction has sparked them into being more aggressive in the purchase of property. Money is as cheap as it has been in 40 years.’
Despite the potential for a housing bubble, BetaShares chief economist David Bassanese said he expected three additional rate cuts this year which would take the benchmark rate down to 1.5%. ‘The RBA has demonstrated its concern with economic growth. It doesn’t see much of an economic upturn and I think in the next few months it will continue to be disappointed and they will have to keep cutting,’ he said.
The forthcoming RBA policy meeting will certainly be of interest considering no one is unanimous on the outcome.
A further rate cut would potentially push the Australian Dollar to fresh lows.