Australia holds key rate as sliding currency stimulates growth

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(Sept 4): Australia kept interest rates at a record low Tuesday, as it has for the past two years, while a currency sliding toward 70 U.S. cents offers the prospect of additional stimulus for the economy.

As expected, Reserve Bank Governor Philip Lowe left the cash rate at 1.5%, a stance he expects will eventually tighten the labour market and spur enough wage growth to speed up inflation. While the Aussie dollar’s more than 10% drop since February may help quicken that process, there’s a risk that rising mortgage rates and falling property prices could encourage households to put away their wallets.

“One continuing source of uncertainty is the outlook for household consumption,” Lowe said in a statement after the decision. “Household income has been growing slowly and debt levels are high.”

On the exchange rate, the governor noted “it has depreciated against the U.S. dollar along with most other currencies.” The local dollar advanced after the release, trading at 72.24 U.S. cents at 2:53 p.m. in Sydney from 71.91 prior to the decision.

“The Aussie got a bit of a bounce off the RBA announcement after traders assessed the RBA had maintained its line that things are going well, fundamentally,” said Kyle Rodda, Melbourne-based market analyst at IG Group. “Traders are buying back into the Aussie, it’s a bit of a relief that the RBA hasn’t talked down the economy.”

Mortgage Hike

The RBA has said its next rate move is more likely to be up than down; the governor, since taking the helm in September 2016, has been reluctant to cut further given the diminishing returns from easier policy. Yet, the RBA’s stimulus was eroded somewhat when Westpac Banking Corp last week said it was hiking its key mortgage rate by 14 basis points, more than half a typical RBA increase, to compensate for higher offshore funding costs.

That prompted traders to push out their bets for the central bank’s first rate hike since 2010 and drive down the currency. Many analysts now see the Aussie dropping into the 60s, potentially boosting the competitiveness of exporters and import-competing industries and allowing them to take on more staff.

The Aussie dollar would probably need to fall into the 60s for a sustained period — potentially almost a year — to change the RBA’s calculations. The central bank currently doesn’t see unemployment falling to the 5% level generally associated with faster wage growth until December 2020. The jobless rate is currently 5.3%.

Australia is also on track for a change in government in the first half of next year to a less business-friendly administration. The Labor party may dilute the current government’s income tax reductions that — in an environment of stagnant wages — are one of few options available to boost household incomes.

Lowe is due to speak in Perth this evening. While his address will be available, the event is closed to the media, meaning there won’t be a public question-and-answer session.

Australia’s economy has avoided recession — measured locally as two consecutive quarters of contraction — for 27 years. The statistics bureau will release second-quarter gross domestic product data Wednesday, that is expected to show an annual 2.9% expansion, a slight cooling from the 3.1% recorded in the first three months of the year.