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RBA should hold steady on interest rates — but when should it cut?

There are as many compelling reasons for the Reserve Bank to cut interest rates as there are to leave them unchanged. AAP

Predicting the Reserve Bank’s interest rate decision for October appears to be particularly tough for economic commentators.

A decline in iron ore prices, compounded with a stubbornly high dollar, has convinced some experts that the RBA will cut rates today.

But economic developments abroad, such as the Federal Reserve’s third round of quantitative easing and the ECB’s bond buyback scheme, may also give the RBA a compelling reason to leave the cash rate as is.

While money markets have factored in a cut to Australia’s cash rate, the majority of CAMA Shadow Board experts have recommended that the Reserve Bank leave the cash rate untouched.

Members of the CAMA Shadow Board, which gives its views ahead of the decision by the Reserve Bank of Australia this afternoon, supports the current setting of the cash rate at 3.5%.

Keeping the interest rate unchanged at 3.5% received nearly 60% weight, considerably above the next most popular setting — a decrease to 3.25% — with 30% weight.

The CAMA Shadow Board saw evidence of weakening inflationary pressures and a risk that the current rate should be lower. Support for a decrease in the October cash rate (of 25 basis points or more) received a weight of approximately 40%. In contrast, the support for an increase (of 25 basis points or more) was just over 5%.

The corresponding figures for September suggested both more upside risk and less downside risk to inflation. With some evidence that inflationary pressures will continue to abate in the coming months, there is greater scope for lower rates in the medium term. Support for a decrease in the cash rate over the next six months was just over 50%.

The CAMA Shadow Board is comprised of influential economists from the private sector and academia. They were asked to rank their preferred settings for the cash rate.

Read the comments in full below.

Read previous Shadow Board comments here

Go to the CAMA website

Why a CAMA Shadow Board? Read this explainer

Paul Bloxham, Chief Economist (Australia and New Zealand), HSBC Bank Australia Ltd:

I favour holding rates steady this month, although I would be willing to consider cutting rates by 25 basis points. Conditions locally and in China look fairly similar to last month. Western growth is still slowing, but it is not clear how much further downward pressure that will put on growth in Asia. Commodity markets have generally stabilised. The local unemployment rate remains low.

While there are some signs that employment is easing, timely indicators do not decisively point to weaker conditions. Monetary policy is starting to lift the housing market. Inflation was low in Q2, but there is no new price data this month to confirm that this has continued to be the case in Q3. Given limited urgency to cut rates further, and signs that lower rates are providing some support for the economy, I would prefer to wait for the Q3 CPI for confirmation that inflation remains low before cutting rates further if needed.

Mark Crosby, Dean of the Global MBA Program, Acting Dean of the Global BBA Program, and Professor of Economics, SP Jain Center of Management in Singapore:

No comment.

Mardi Dungey, Professor, University of Tasmania, CFAP University of Cambridge, CAMA

The evidence for weaker international demand continues to grow and is becoming more evident in domestic conditions. The pressure to balance budgets is not allowing the more usual cushioning of regional weaknesses through fiscal policy actions, and is likely to contribute to further weakness if the current approach is continued. A lowering of interest rates should reduce the value of the Australian dollar somewhat, and ease some of the pressure in the export sector.

The outlook for longer term conditions is more confused than previously, split between concerns over increased international pressures via increased liquidity and reduction due to continued economic weakness.

Saul Eslake, Chief Economist, Bank of America Merrill Lynch Australia:

The argument for a rate cut is getting stronger — given the ongoing slowdown in China, and the impact that’s having on commodity prices — but not, so far, on the Australian dollar.

However, it’s not yet clear to me that, overall, the negative effects of persistent AUD$ strength have started to overwhelm the other factors that have kept the unemployment rate steady in a 5-5.25% range and growth close to or even slightly above its trend pace so far this year. I expect rates eventually will need to fall, but I’m not “over the line” for October.

Bob Gregory, Professor Emeritus, RSE, ANU, Professorial Fellow, Centre for Strategic Economic Studies, Victoria University, Adjunct Professor, School of Economics & Finance, Queensland University of Technology

No comment.

Warwick McKibbin, Professor, ANU, CAMA:

No comment.

James Morley, Professor, University of New South Wales, CAMA:

Slight Loosening Bias:

Recent announcements by the Federal Reserve and the ECB have somewhat improved the outlook for foreign demand and financial conditions. However, weakness in China remains the main downside risk for the Australian economy.

Domestically, the residential sector is likely to remain weak and a high dollar will continue to put pressure on many other sectors. Although the focus of monetary policy should be on overall aggregate conditions, which remain robust, the potential weakness in China and some domestic challenges related to the high dollar lead to a slight loosening bias in near-term policy.

On the inflation front, it is likely that headline numbers will move back towards the target range and, to the extent the Australian dollar is likely to revert to its long-run level over the medium term, inflation can be expected to be within the target range, rather than below. However, any indication that inflation could remain persistently below the target range should be responded to with a loosening of policy.

Jeffrey Sheen, Professor and Head of Department of Economics, Macquarie University, Editor, The Economic Record, CAMA:

Australian foreign interest rate differentials are probably appropriate to this stage of the mining boom, delivering expected future depreciation. The expected weakening in the terms of trade — down a little from a 50-year high — will assist this depreciation in due course.

The unemployment rate fell to 5.1% in August, though employment has hardly changed in the last quarter, despite 3.7% output growth. There have been no significant changes to global macro risks in the last month. For all these reasons, my recommendations from last month are repeated.

Mark Thirlwell, Director, International Economy Program, Lowy Institute for International Policy:

No comment.

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