Joanna Heath and Jacob Greber Australian Financial Review 02 Oct 2012
An influential group of former Reserve Bank of Australia board members, academics and market economists has urged the central bank to shun calls for an interest rate cut today.
A nine-member board acting as a “shadow” RBA said on Monday that the best option would be for the bank to keep the benchmark cash rate at 3.5 per cent.
The recommendation belies the expectations of financial markets, where the chance of a rate cut stands at 68 per cent.
RBA board members have signalled in recent weeks they are increasingly concerned about falling commodity prices and the high dollar, which might be squeezing the economy more than expected.
Treasurer Wayne Swan said the government’s fiscal strategy has “given the RBA room to cut interest rates substantially” over the next 12 months. “We’ve got low interest rates, contained inflation, solid growth, low unemployment, healthy consumption and an enormous pipeline of investment in resources with $260 billion at an advanced stage,” Mr Swan said.
But the shadow board, which includes former RBA board members Bob Gregory and Warwick McKibbin, argues the bank should keep its monetary policy powder dry ahead of inflation data later this month.
Bank of America Merrill Lynch Australia chief economist Saul Eslake said while the argument for a rate cut was getting stronger given the slowdown in China and falling commodity prices, the dollar’s strength was not yet hurting the jobless rate or the pace of economic growth.
“It’s not yet clear to me that, overall, the negative effects of persistent Australian dollar strength have started to overwhelm the other factors that have kept the unemployment rate steady,” Mr Eslake said.
University of NSW economics professor James Morley said the focus for the central bank should be on overall economic conditions, which remained “robust”. However, he said the potential weakness in China and the impact of the high dollar could prompt future rate cuts.
“On the inflation front, it is likely that headline numbers will move back towards the target range,” Professor Morley said.
“And to the extent the Australian dollar is likely to revert to its long-run level over the medium term, inflation can be expected to be within the target range, rather than below. However, any indication that inflation could remain persistently below the target range should be responded to with a loosening of policy.”
Professors McKibbin and Gregory had strong recommendations for no change in the official cash rate at this month’s meeting.
But Westpac, ANZ Banking Group, AMP Capital, Macquarie Group and UBS are all predicting the RBA will cut rates today.
While most forecasters expect at least one cut before the end of the year, there is disagreement on whether the RBA will act immediately or wait for the September quarter consumer price inflation data.
Futures markets suggest the RBA will cut rates by at least 1 percentage point over the next 12 months.
The shadow board is hosted by the ANU’s Centre for Applied Macro-economic Analysis in Canberra. It was established last year and is similar to a group that has critiqued the US Federal Reserve since 1973.
It tries to make so-called “probabilistic” judgments about what policymakers should do, rather than forecast what the bank will do.
Members of the shadow board include HSBC Australia chief economist Paul Bloxham, economics professors Mark Crosby, Mardi Dungey and Jeffrey Sheen and the Lowy Institute’s Mark Thirlwell.
AMP Capital chief economist Shane Oliver argues the case for a rate cut is “overwhelming”.
“If you run through the fundamentals: we’ve got continued weakness in China; bulk commodity prices still relatively soft compared to where they were several months back; and we’re staring down the barrel of quite a significant reduction in our terms of trade and national income. And it’s all occurring at a time when the Australian dollar is remaining incredibly strong,” Dr Oliver said.
“The risk is that if we don’t start to bolster the non-mining part of the economy, then we could face a significant downturn or slowdown as the mining sector continues to come off the boil.”
Barclays interest rate strategist Gavin Stacey argued that the extraordinary moves by offshore central banks in September – Fed quantitative easing and the European Central Bank’s unlimited bond-buying program – might give the RBA pause.
“September was such an unusual month for global initiatives . . . If they’ve managed to save the day and turn around some of these leading indicators, and the commodity price outlook, the RBA can have the luxury of stepping back and free riding on the global initiatives,” Mr Stacey said.
“I think maybe the issue for the RBA is, under these circumstances, waiting around for another month would probably make sense because you get a couple of global manufacturing PMIs [purchasing managers indices], more commodity price moves and a CPI release.”
Economic data released on Monday showed evidence of further slowing in the Australian and Asian manufacturing sectors.
Australian manufacturing contracted for the seventh consecutive month in September, according to Australian Industry Group’s manufacturing PMI. The index fell 1.2 points to 44.1 in September from 45.3 in August. Input costs remained high at 57.1 points, while selling prices declined 4.6 points to 41.2.
Basic metals, fabricated metals, and transport equipment subsectors posted steep declines in activity in September; textiles, clothing and footwear expanded moderately.
The official Chinese manufacturing PMI for September improved slightly from 49.2 points to 49.8, but was in contractionary territory for the second straight month. Slowing Chinese growth has been behind a sharp drop in commodity demand that has contributed to a 29 per cent fall in iron ore prices in six months.
The disappointing result confirmed the view that stimulatory policies implemented had failed to arrest a cyclical economic downturn, said ANZ Banking Group economists.
with Gemma Daley
The Australian Financial Review