The Reserve Bank will keep interest rates steady today and then tomorrow the Bureau of Statistics will confirm a remarkable achievement: Australia’s GDP growth will be roughly the same as the OECD average, but with interest rates about 3% higher.
It’s like Makybe Diva winning her third Melbourne Cup in 2005 with 58kg on board. Governor Glenn Stevens and the RBA board should take a moment today to reflect on what has been achieved, and so should Wayne Swan and Kevin Rudd. Perhaps then they might be more careful not to stuff things up.
The OECD last night put its first quarter GDP estimates for the March quarter. Average growth, quarter-on-quarter was 0.7%. The two outliers are Japan, at 1.2% growth, and the European Union on 0.2%. US growth was 0.8%.
Australia’s March quarter National Accounts are due on Wednesday (winning the statistical global wooden spoon) and yesterday’s big dump of data suggests GDP growth will be a bit less than the OECD average – around 0.5%.
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Australia’s official cash rate started the quarter at 3.75% and went to 4% at the beginning of March. Rates in Europe, the US, UK, Canada and Japan are all 1% or less; in Japan and the US they are at zero.
Obviously the reasons that Australia is able to post average economic growth rate despite significantly higher interest rates are complex, and have more to do with the strength of housing and the terms of trade than monetary policy.
But the fact that the RBA has been able to confidently move the cash rate from 3 to 4.5% as the world now enters a dangerous new phase of the deleveraging that began in 2007 puts us in a very strong position.
The market is even pricing in a rate cut towards the end of this year, which seems rather fanciful, but at least the RBA is not ‘zero bound’ like its counterparts elsewhere in the developed world.
If high levels of sovereign debt cause a deflationary crisis this year or next, central banks won’t be able reduce rates and governments will be unable to provide any fiscal stimulus. Australia is now the only developed country with a flexible monetary policy.
Meanwhile house prices are finally tipping over in response to the higher interest rates: the RP Data, Rismark index yesterday showed that capital city values rose 0.2% in April and in the most expensive 20% of suburbs actually fell. Values outside the capital cities fell 0.2%.
As Adam Carr pointed out yesterday, housing credit growth is weak but he and other economists reckon lending is likely to pick up this year if rates stay on hold for a while.
So, given that the rise in house prices in 2009 was almost the same as the rise in disposable income (11.8% versus 11.5%), the most likely scenario is that as lending picks up, so will house prices start rising again.
For that reason the RBA is inclined to keep tightening rates towards 5%, but that depends entirely on what happens overseas. As long as the risk of deflation and double-dip recession remains real the RBA will have to remain cautious.
This article first appeared on Business Spectator.