Australia holds rates as Sydney housing poses stability risk

[SYDNEY] Australia kept interest rates unchanged Tuesday as risks from Sydney's soaring property prices outweighed subdued inflation.

Reserve Bank of Australia Governor Philip Lowe and his board left the cash rate at 1.5 per cent following strong growth and trade performances in the final three months of last year. The decision was expected by all 29 economists surveyed by Bloomberg.

"There's a recognition the housing market has strengthened even further, but there's not a lot more in the statement," said Matthew Peter, chief economist at QIC Ltd in Brisbane, who sees high household debt constraining consumption and domestic demand.

"The RBA is cornered. They can't cut and they can't hike."

Sydney housing demand remains strong as buyers appear to conclude city property is a one-way bet and keep ratcheting up record debt. That's despite stratospheric house prices partly stoked by high population growth and a lack of residential construction. The central bank has left policy unchanged to avoid further inflaming the market, while resurgent commodity prices and higher exports are providing a boost to national income.

"Conditions in the housing market vary considerably around the country. In some markets, conditions are strong and prices are rising briskly," Mr Lowe said in his statement.

"Borrowing for housing by investors has picked up over recent months."

The Australian dollar was little changed, buying 76.17 US cents at 3:18pm in Sydney, compared with 76.10 US cents before the decision.

Australia's economy grew 1.1 per cent in the fourth quarter from the prior three months and 2.4 per cent from a year earlier, putting it on track to meet the RBA's forecast 3 per cent annual growth later this year.

But the expansion was supported by household spending that was financed by drawing down savings instead of wage growth, which remains at a record low. As a result, it's not clear whether the expansion is sustainable.

Slim pay packets are a product of the economy adjusting to the end of a mining investment boom and trying to become more competitive; but they're also a result of excess labour market capacity as new jobs have tended to be part-time and under-employment remains high. The upshot is the current 5.7 per cent jobless rate probably overstates the labor market's health.

"Labour market indicators continue to be mixed and there is considerable variation in employment outcomes across the country," Mr Lowe said.

"With growth in labour costs remaining subdued, underlying inflation is likely to stay low for some time."

Low Inflation

As a result, the reflation story playing out in the developed world has so far bypassed Australia, where consumer-price growth is languishing below the central bank's 2 per cent to 3 per cent target. While higher oil prices may push headline inflation back into the range in the near term, core price growth is expected to remain below-target for some time.

"In China, growth is being supported by higher spending on infrastructure and property construction," Mr Lowe said.

"The improvement in the global economy has contributed to higher commodity prices, which are providing a significant boost to Australia's national income."

Australia continues to reap rewards from its status as an economic satellite of China, where stimulus has increased demand for iron ore and coal. That's provided a windfall Down Under.

Australia's traditional service industries are also benefiting from the world's No 2 economy, particularly tourism: Australia had a record 1.2 million visitors from China last year.

Moreover, the unwinding of mining investment that's dragged on growth in recent years is almost completed and should aid the economy. Business conditions are also strong - reflecting low rates and a more competitive currency - as firms' confidence improves.

"The board judged that holding the stance of policy unchanged at this meeting would be consistent with sustainable growth in the economy and achieving the inflation target over time," Mr Lowe said.

BLOOMBERG