What 2017 has in store for interest rates
The Reserve Bank of Australia kept the cash rate on hold in February at its first board meeting for 2017. The decision was in line with economists’ forecasts but what lies ahead for rates this year remains unclear.
The decision to keep the rate on hold is said to reflect the recent inflation and business confidence figures as well as the improvements in global growth.
In the accompanying statement, RBA governor Philip Lowe said economic growth was forecast to be around 3 per cent over the next two years – well above the September quarter figure of 1.8 per cent. He also said growth would be boosted by further increases in resource exports and by the period of declining mining investment coming to an end.
“The outlook continues to be supported by the low level of interest rates,” Lowe said in his statement.
Rate decision widely anticipated
CoreLogic’s director of research, Tim Lawless, says the RBA’s decision was widely anticipated especially considering the strength in the housing market over the second half of 2016 and the consistent rise in investment activity since the latest round of rate cuts in May and August last year.
“With inflation consistently tracking below the RBA’s target range for almost three years, it’s likely that the heat in the housing market is one of the primary reasons why the cash rate hasn’t moved lower in an attempt to stimulate spending and push inflation higher,” he says.
Figures from CoreLogic show capital city dwelling values were 10.7 per cent higher over the past 12 months – substantially higher than the 7.4 per cent recorded over the same period a year ago.
“The acceleration in the pace of capital gains highlights that housing market conditions have rebounded in line with the previous rate cuts and the consistent rise in investor participation,” Lawless says.
He adds that despite the cash rate remaining on hold and some subtle upwards movement in mortgage rates over recent months, the cost of debt remains historically low, which should continue to see strong demand for housing from both owner-occupiers and investors.
All about growth
With so much volatility and uncertainty occurring in global markets, particularly from the Trump effect, what’s the likely rate scenario for the rest of the year?
If growth stagnates, the RBA may decide on further cuts, but if growth picks up, then it may be inclined to raise rates to tighten monetary policy.
Credit Suisse economist Damien Boey put out a note predicting Australia will have zero real GDP growth this year, which will likely lead to two rate cuts. He said the cash rate should be 0.8 per cent, which is nearly three typical interest-rate cuts lower than today’s level in order to stimulate the economy.
Boey told media group Fairfax that following the shock 0.5 per cent contraction in third-quarter GDP, he saw little chance of a rebound in the fourth quarter of 2016. On the demand side, he feared that “moderate growth in retail spending has been offset by weakness in the construction cycle”.
But the December retail report showed a disappointingly soft finish for monthly sales although a solid gain for real retail sales over Q4 as a whole. Capital Economics’ Katie Hickie believes the numbers are a poor portent for 2017. “The rise in real retail sales in the fourth quarter was in line with expectations, but the outright fall in nominal sales in December reveals a worrying lack of momentum heading into 2017,” she says.
Rates and the Trump effect
While any mention of Trump was absent from the RBA statement, the RBA Shadow Board chairman Timo Henckel told the ABC that the Shadow Board’s conviction that the cash rate should remain at its current level is stronger than two months ago, “reflecting the heightened uncertainty surrounding the Trump presidency”.
“On the one hand, Trump’s promise to drastically increase infrastructure and defence spending, coupled with tax cuts, will exert upward pressure on the US and hence world interest rates,” he says. “On the other hand, Trump’s protectionist and nationalist policies will dampen international trade and generate political uncertainty.”
Currently, the general consensus is that if rates move at all this year they will be cut. But if Australia’s economy improves and if the US raises rates, then there is also the possibility the RBA will come under pressure to raise rates.