The Reserve Bank is “unlikely” to stop at just one rate cut this year, despite the risks of “super-low” interest rates on the economy, according to a leading economist.
At its first board meeting of the 2015-year yesterday, the central bank weighed up the options and concluded that the best decision was to cut rates to a new record low of 2.25%. For the past 18 months, the cash rate has been held at a 54-year low of 2.5%.
Despite the rate cut decision being a risky one, Craig James, chief economist at CommSec, says there is a possibility of seeing a ‘1’ in front of the cash rate if the Reserve Bank is worried about sluggish economic growth.
“Is the decision risky? Yes, but the RBA
believe that it is a risk worth taking with inflation low and the economy growing at a below-normal pace. The risks lie very much in the housing sector as another rate cut will further boost demand for homes and drive up prices,” he said.
“[I]f the Reserve Bank wants to generate greater growth, it is unlikely to stop at just one rate cut. So the cash rate could very well have a ‘1’ in front at some point in 2015.”
James – who previously stood strong on his forecast of cash rate stability throughout 2015 – believes the RBA may have paved a rocky path. According to James, there were good reasons to suggest that the central bank could have been more patient and stayed on the interest rate sidelines to minimise this risk.
“Again super-low interest rates are risky. Not only could they attract more marginal borrowers into property investment, but if the experiment of super-low rates doesn’t work, then there will be less firepower available should a real global crisis develop over the next few years,” he said.
“Still, at the end of the day, the only tool in the Reserve Bank kit bag is interest rates. The only other quasi-tool available is so-called ‘open mouth’ operations – constantly encouraging businesses and consumers to spend, invest and employ.
“Another risk in cutting interest rates is that it could have perverse effects. If consumers and businesses worry that rates are ‘too low’ and that rate cuts won’t work in boosting growth, then confidence and spending will both decline.”