Patrick Hamilton/Bloomberg
Glenn Stevens, governor of the Reserve Bank of Australia, yesterday said 2.25 percentage points of reductions to a record low 2.5 percent are already providing “a substantial degree of policy stimulus.”
Australia today saw the swearing in of its 28th prime minister, with Tony Abbott pledging to rein in spending even as the growth outlook weakens -- stepping up challenges for Glenn Stevens, who begins his final term as central bank governor with the cash rate at a record low.
The divergence of monetary and fiscal policy in the world’s 12th largest economy raises the risk of tension between Abbott, 55, and Stevens, 55, who was reappointed by the previous administration. The Reserve Bank of Australia has to contend with the danger of distorting asset prices from any extension of a policy easing cycle already two years long.
“Stevens is trying to steer a path between avoiding asset bubbles, particularly in the real estate sector, and keeping the Australian dollar from going too high,” said Martin Whetton, an interest-rate strategist at Nomura Holdings Inc. in Sydney. “He’s also reaching a point where on perceived wisdom, he’s very close to the terminal rate of policy.”
Stevens yesterday said 2.25 percentage points of reductions to a record low 2.5 percent are already providing “a substantial degree of policy stimulus.” Abbott has pledged to terminate 12,000 civil service positions and is targeting a budget surplus of 1 percent of gross domestic product in a decade.
The governor proved hawkish in his first term at the helm of the RBA, raising the benchmark to a 13-year high in March 2008 even as credit markets began seizing. After reducing borrowing costs to a half-century low in 2009 as much of the developed world entered recession, he began raising again later that year as government stimulus kept Australia growing and sparked a surge in home prices.
Policy Lag
The RBA’s easing since November 2011 -- designed to offset the drag from declining mining investment and dampen the currency’s strength -- is “most evident in the housing market,” Stevens said yesterday in minutes of the RBA board’s Sept. 3 meeting, where the cash rate was kept unchanged just four days ahead of the election.
“We’re in one of the higher-than-average periods at the moment” for house prices, RBA Assistant Governor Malcolm Edey told a forum in Sydney today. “But we shouldn’t be rushing to reach for the bubble terminology every time the rate of increase in house prices is higher than average because by definition that’s 50 percent of the time, and you’re just going to be unrealistically alarmist by making that call every time that happens.”
Abbott and Stevens will have a new Treasury bureaucrat to work with next year. Martin Parkinson, secretary to the department since March 2011, will stand down in the middle of 2014, Abbott’s office said in an emailed statement. The secretary to the Treasury sits on the RBA’s nine-person board.
Budget Emergency
Abbott’s coalition warned before the Sept. 7 election that Australia faces a budget emergency. Treasury said in its pre-election outlook released Aug. 13 that the federal deficit will widen to A$30.1 billion ($28.2 billion) this fiscal year that ends June 30, 2014, and is no longer projected to return to balance in 2015-16.
“There is a very serious deterioration in our budgetary situation,” Abbott told reporters in Canberra two days ago in his first press conference since winning office. “Nevertheless, I want to stress that we will bring the budget back into surplus as quickly as we responsibly can, consistent with the election commitments that we’ve given.”
That task will be complicated as the coalition aims to meet its pledges to abolish Labor’s carbon and mining levies and lower the business-tax rate while funding a A$5.5 billion per year maternity-leave program. To help make savings, Abbott also plans to lower subsidies for automakers, cancel handouts to parents of school children and slash foreign aid.
Further Stimulus
With Abbott politically wedded to spending restraint, it will likely fall on Stevens to provide further stimulus in the event growth declines sharply and threatens recession.
“I don’t see Abbott committing to stimulus,” said Alvin Pontoh, a Singapore-based strategist at TD Securities. “So it will be up to the RBA to keep monetary policy loose for the foreseeable future to help the economy negotiate the transition from mining.”
Stevens and the new government will discuss monetary policy in the near future. After the past two elections, the government and central bank signed a statement on the conduct of monetary policy. Australia’s central bank makes rates decisions independently from the government.
Aussie Rebound
The central bank loosened policy to help rebalance growth from mining regions in the north and west as investment wanes toward services and manufacturers in the south and east. The RBA’s efforts had been aided by a decline in the currency between April and August. The Aussie has rebounded 5 percent this month as concerns eased about the impact of Federal Reservetapering of bond purchases that had devalued the U.S. dollar.
“The recent lift in the Australian dollar over the past few weeks puts the RBA in a Catch-22 scenario,” said Janu Chan, an economist at St. George Bank Ltd. in Sydney. “In part, the Australian dollar has lifted due to rising expectations the RBA is done cutting rates. However, a high Australian dollar will keep the door open for another rate cut, because a stronger currency tightens financial conditions.”
The prospect of the coalition’s election victory boosted confidence that had remained subdued for much of the Labor government’s time in office.
Greater Confidence
Household sentiment jumped 4.7 percent this month to 110.6, the highest level since December 2010, a private survey showed Sept. 11. Consumer confidence had averaged 101.5 points under the almost six years of Labor rule.
Business confidence surged to 6 from minus 3 in August, a separate private report released a day earlier showed, as confidence increased in all industries. It averaged 0.5 point under Labor.
“You wouldn’t believe the nature of the change in the conversations we’ve had with companies over the last two weeks, over how confidence is coming back,” Dion Hershan, head of Australian equities at Goldman Sachs Asset Management Ltd., told reporters today at a Melbourne briefing. “That’s not to say it’s all going to be smooth sailing, but I think you can draw a clear link between stronger business confidence, business capex outside of the resources sector and employment outside the resources sector.”
Home Prices
Lower rates have spurred the property market in Sydney, Australia’s biggest city, where house and apartment prices climbed 7.4 percent in the eight months to Aug. 31, compared with a national average of 5.1 percent, according to the RP Data-Rismark Home Value Index. More than 85 percent of the homes that went to auction in the city sold successfully in the first weekend in September, the highest rate since 2008, according to Australia & New Zealand Banking Group Ltd. (ANZ)
“The east coast of Australia seems to be gathering a lot of momentum at the moment,” said John McGrath, chief executive officer of McGrath Estate Agents, who forecast in a Sept. 13 interview that prices could rise by between 5 percent and 10 percent in Sydney in the next year.
Still, traders are pricing in about a 30 percent chance the RBA will lower borrowing costs by a quarter percentage point to a fresh record low of 2.25 percent by year-end, according tointerest-rate swaps data compiled by Bloomberg.
“This is going to be a challenging political economy for the governor,” said Peter Jolly, Sydney-based head of market research for National Australia Bank Ltd. “If you take interest rates to super-low levels and keep them there for a long time, you can have big and unhelpful impacts on asset prices like housing.”
By Michael Heath
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