Last week’s 0.25% interest rate reduction was expected by just about every man and his dog.
The Reserve Bank of Australia Governor Glenn Stevens gave a very clear signal exactly one week earlier that an interest rate cut was coming – sooner rather than later.
Some clear winners
The news was welcomed by many. Certainly those individuals that have a variable residential mortgage and businesses reliant on bank loans to operate were cheering as the RBA delivered its eighth interest rate reduction since it began the current easing cycle in November 2011. Exporters have also benefited in recent times: after several years of pain due to a higher currency they are finally getting some relief.
When Stevens began his speech on Tuesday 30th July the Aussie dollar was trading at around 92 US cents. By the end of the week it had fallen more than 3% having exchanged below 89 cents. Whilst the RBA and most analysts think there is still more Aussie dollar weakness to come, it is important to recognise that the local unit has already fallen around 25% from its peak above 110 US cents in July 2011.
Not everyone benefits from lower interest rates and a lower Australian dollar
Lower interest rates and a lower exchange rate bring many benefits for the broader economy however there are also some losers in all of this. Those people with discipline that have saved large amounts of money get penalised, or as economic theory goes, become incentivised to put that money to work (invest). This is certain to put some upward price pressure on the property market at some point.
Pensioners that often rely on income from their deposits are also hit hard by lower interest rates. Some businesses such as Australian importers also stand to lose from the recent trend. Whilst some may argue that they have no right to cry poor given the benefits they have enjoyed in the form of lower importing costs over the last five years, there will come a point where a low Aussie dollar threatens to put many businesses under increased financial stress or even out of business.
Pessimism will return
If the current trend continues, as many predict, then there is no doubt it won’t be long before the conversation being played out in the media, and by analysts, changes to one of pessimism. If unemployment climbs higher and economic growth continues its decline then the market’s, and indeed the general public’s, psyche will also change. I am sure we all know how fickle sentiment can be!
Despite the huge mining related export boom, Australia is also a massive importer of goods from offshore. So whilst exporters should see an increase in revenue, from a lower currency, importers will have an increase in costs to deal with. Not only will this lead to a general price rise and inflationary pressure across the whole economy but eventually it will put upward pressure on interest rates. And so the cycle goes…
Jim Vrondas is chief currency and payment strategist, Asia-Pacific at OzForex, Australia’s leading international money transfer service.