Wednesday, October 3, 2012

Australian Central Bank Decision

Yesterday, the RBA announced it would lower rates by 25 basis points.  Here are the points from the announcement that I think are important:

The outlook for growth in the world economy has softened over recent months, with estimates for global GDP being edged down, and risks to the outlook still seen to be on the downside. Economic activity in Europe is contracting, while growth in the United States remains modest. Growth in China has also slowed, and uncertainty about near-term prospects is greater than it was some months ago. Around Asia generally, growth is being dampened by the more moderate Chinese expansion and the weakness in Europe. 

The three major economic regions of the globe are slowing down.  China -- while still growing, won't be able to hit its 10% GDP growth rate this year.  The EU is in a recession and the US has very weak growth.  In short, there is no driver of growth on the horizon.

Financial markets have responded positively over the past few months to signs of progress in addressing Europe's financial problems, but expectations for further progress remain high. Low appetite for risk has seen long-term interest rates faced by highly rated sovereigns, including Australia, remain at exceptionally low levels. Nonetheless, capital markets remain open to corporations and well-rated banks, and Australian banks have had no difficulty accessing funding, including on an unsecured basis. Share markets have generally risen over recent months. 

I think what they were thinking of saying is that -- despite weak growth -- we haven't seen an equity market swoon.  Some of that is the result of central bank prodding.  But, I also thing there is a sense within the markets that at minimum, the authorities will work to make sure the bottom does not fall out of the economies around the world.

Inflation has been low, with underlying measures near 2 per cent over the year to June, and headline CPI inflation lower than that. The introduction of the carbon price is affecting consumer prices in the current quarter, and this will continue over the next couple of quarters. Moderate labour market conditions should work to contain pressure on labour costs in sectors other than those directly affected by the current strength in resources. This and some continuing improvement in productivity performance will be needed to keep inflation low as the effects of the earlier exchange rate appreciation wane. The Bank's assessment remains, at this point, that inflation will be consistent with the target over the next one to two years. 

This is really the untold story of the last four years.  Despite central banks jumping into the markets with various easing efforts, inflation has been low around the globe with a few exceptions (India being the worst case).  The reason is we're in a liquidity trap.