​Where next for rates?

by Julia Corderoy25 Sep 2014
The RBA looks set to remain sidelined for some time, but there’s a growing sentiment that the Bank could make another cut

For much of the year, the prevailing sentiment on interest rates has been “steady as she goes”. After the Reserve Bank cut the official cash rate to a record-low 2.5% last year, most economists expected a period of stability. That’s come to pass so far, with the RBA content to take a wait and see approach for the past 12 months. But economic observers seemed to agree that the next move the Reserve Bank made, whenever it eventually came, would be upward. Now, that seems far from a sure bet.

Early in the year, economists were calling for the RBA to begin another cycle of tightening around November. As the economy remained sluggish and consumer sentiment declined, this prediction got pushed out to early or mid-next year. Now, as unemployment has drifted upward, the idea that rates could fall even further no longer seems far-fetched.

The most recent ABS data showed a significant jump for unemployment, up 0.3% to 6.4% for July. The rise puts the jobless rate 0.7% higher than a year ago. As a result, investors priced in a 32% chance of a rate cut by Christmas. The jobless data wasn’t the only bad news. In the quarter to June 2014, wages rose by just 0.6%, according to the Australian Bureau of Statistics’ wage price index. In the year to June, the wage price index rose by a meagre 2.6% – well below the inflation rate of 3%.

The Reserve Bank has itself been talking down the economy of late. In the minutes of its 5 August board meeting, the board noted there was “a significant degree of uncertainty about the outlook, given the number of forces working in different directions.”
The RBA noted that credit growth had lifted and housing prices have remained robust. But despite the low cash rate, the exchange rate has remained stubbornly high.

“…The exchange rate remained high by historical standards, particularly given the notable decline in the prices of some key commodities, and hence was offering less assistance than it might in achieving balanced growth in the economy,” the RBA said.

But in spite of some grim economic signals, BIS Shrapnel associate director of economics Richard Robinson predicted the RBA will continue to hold rates steady.

“Labour force data is often volatile. As the RBA would also know this, it is likely to wait for more labour force releases, and check the trend labour force data before making a decision. Over the next few months, the RBA will leave rates on hold. It is only likely to cut rates if the unemployment rate jumps and holds above 6.5% and if house prices recede – which will give them some scope to cut rates,” Robinson said.

And ING Direct treasurer Michael Witts said unemployment figures may not be as dire as they appear.

“We need to look at both the trend and seasonally adjusted data, especially when there is a discrepancy between the two. The seasonally adjusted data shows an increase of 0.3 percentage points to 6.4%, while the trend data shows an increase of 0.1 percentage points to 6.1%. The labour force statistics have also been pretty consistent recently, up until July.

“The real issue here is there hasn’t been a big decrease in employment – only 300 jobs were lost, and the participation rate has only increased by 0.1 percentage points. The ABS has also acknowledged there was a change to the data consistency in July, so the RBA will not take action after one month of doubtful data,” Witts said.

FBAA president Peter White agreed. He predicted that employment figures will bounce back before the RBA feels its hand forced.

“I don’t think the unemployment rate will remain where it is. More likely, I think we will find that unemployment rates will drop back a bit, and we will see interest rates going up again early next year. This current climate is just a trend, which we will ride through and come out the other end. I don’t see this as a long-term problem from a consumer or market point of view. This is just a spike.”

Regardless of the RBA’s next move, MFAA CEO Phil Naylor said brokers should be reassessing their clients’ situations.

“From a broker point of view, tougher times are usually a period when broker value comes to the fore, ensuring current loan packages are still appropriate for the changed circumstances of their clients.”

This article is from Australian Broker issue #11.17. Download the issue to read more features.