RBA opens the door to rate cuts – not guaranteed though.

October 5, 2011

RBA and Interest Rates

The RBA didn’t exactly throw in the towel yesterday nrt guarantee a rate cut in November but they certainly opened the door, hallelujah. As readers know at Lighthouse and over at MacroBusiness we have been raging against any chance of an RBA rate hike for ages now. We recognise that the RBA rhetoric was consistently talking about the upside risks to rates but we thought the economy was weakening and that this, combined with offshore events, would eventually stay their hand and change their rhetoric.

This is entirely consistent with their approach to monetary policy as articulated by them over the years as being to hold to a central tendency and then adjust the outlook to reflect the risks around same.  

The risks have clearly shifted and they have acknowledged they may need to cut rates soon.

But we do not want to fall into the trap that the rate hawks did a few months ago and misread the RBA’s words and intentions because they fit with our view. That would be to fall into the trap of confirmation bias and it can, indeed did, cost people a lot of money when the view and the rhetoric collide but are not followed up with action.

So lets start with the wordle version of the statement that accompanied today’s announcement.

The most important, probably first thing you will not is the emergence of the word  “recent” from the cloud. This tells you much about the evolution of the RBA’s thinking and the fact that their core view is being over run by “recent” events and the crisis and malaise overseas. You’ll also notice near the word recent are “declined” and “earlier” which further highlights my point that the RBA has been over run by recent events which have elevated the risks around their core, mining boom-inflation, view.

Growth remains important to the RBA but it only occurred 7 times in the Statement and then only once with a pseudo positive bent (my bolding),

While there remain good reasons to expect solid growth over the medium term, the indications are that the pace of near-term growth is unlikely to be as strong as earlier expected, due both to local and global factors, including the financial turmoil and related effects on business confidence.  

Yesterday when I read the statement the first time I thought it was very dovish, as did markets which have now priced in 161 basis points of cuts in the next year. I year swaps fell to 3.95% and 3 year swaps have fallen to 3.91%. 

But thinking about it overnight and again this morning and guarding against the blight of confirmation bias I talked about above I reckon they have given themselves room but a Melbourne Cup cut next month is a chance not a certainty. Here is what they said on inflation,

Taking into account all the recent information, the path for inflation may now be more consistent with the 2–3 per cent target in 2012 and 2013, abstracting from the impact of the carbon pricing scheme. This assessment will be reviewed on receipt of further data on prices ahead of the Board’s next meeting. An improved inflation outlook would increase the scope for monetary policy to provide some support to demand, should that prove necessary.

That’s what we talked about in yesterday’s piece – falling and much more quiescent inflation coupled with a weakening Australian economy and parlous global backdrop means that the time for monetary stimulus is now. At least in my opinion anyway.

But as the bolded bit highlights the rate cut is not guaranteed. Rather the RBA has told us that they will be looking at the Q3 CPI data on October 26th as a key input into their meeting in November. But the outcome of any one data point is almost always a turkey shoot regardless of the faux confidence you see from economists and pundits on the telly. So a positive outcome is not a given.

And currently the RBA still sees the current monetary settings as appropriate,

At today’s meeting the Board judged the current cash rate remained appropriate. As always, the Board will continue to assess carefully the evolving outlook for growth and inflation.

So while the RBA hasn’t guaranteed the November rate cut, they have given themselves room and prepared the ground.

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