RBA prepared to cut rates if confidence dives

Minutes from the Reserve Bank’s May 5 board meeting were released this week and showed that the central bank remains cautiously optimistic about Australia’s economic outlook. When the board met earlier this month, it decided to keep rates on hold at 3 per cent, a 49 year low for Australia. The bank has been following an aggressive monetary policy easing policy since September last year, slashing rates by 425 basis points in an effort to shield the economy from the worst of the global financial meltdown.

The minutes showed that the board expects the Australian economy to gradually start turning the corner from late 2009. However, they did note that business conditions remained relatively weak and the consumer sentiment ‘remained well below average, although it had improved a little recently and was considerably better than in other countries’.

Other data out this week from a major retail bank revealed that consumer confidence fell by 4.3 per cent in May. Apparently this is the second biggest fall in the index after the release of a federal budget in the last decade. The size of the government’s $57.6 billion budget deficit and the forecast contraction of 0.5 per cent in the middle of the year are making a number of people increasingly nervous.

This means that the RBA is going to have to keep a very careful month-to-month watch on the health of the Australian economy. Key indicators like unemployment, business investment data and confidence levels will be critical in influencing if, and when, the RBA needs to make another cut to the official cash rate.

In a speech to businesses this week, RBA governor Glenn Stevens confirmed that changes in monetary policy still played an important role in influencing confidence. However, part of the problem facing the board is that it really only has another 100 basis points left in the kitty before rates hit the bottom of the easing cycle which has been flagged as 2 per cent.

It will also be scrutinizing conditions in the global economy, particularly in markets like China. Our economic future is closely tied to the health of the Chinese economy due to its strong appetite for raw materials and resources. If it starts to rapidly nosedive during the next six to 12 months, our economic recovery will be in serious trouble. Unfortunately, data about the state of the Chinese economy appears less than transparent, and economists appear to be struggling to gain a clear picture of exactly where it is at in the recovery cycle.

So this means that even the RBA is unsure about how soon it may have to cut rates again. The board next meets on June 2.

Infochoice.com.au