Doubts over China commodity demand, local consumption led to RBA rate cut

Sydney

THE Reserve Bank of Australia said doubts about a pickup in domestic spending and China's appetite for raw materials prompted this month's decision to lower interest rates, and reiterated that the Aussie dollar remains too high.

"There was considerable uncertainty around the timing and extent of the expected increase in household consumption growth and non-mining business investment," it said in minutes of the first meeting of the year, where it debated whether to cut straight away or wait a month. There was also a lack of clarity on "the outlook for the Chinese property market and its implications for Chinese demand for commodities," it said.

The RBA ended a 17-month pause as it lowered the nation's growth and inflation outlook for this year in response to weak investment intentions outside the mining industry. Policy makers are trying to revive confidence and encourage hiring in an economy where unemployment climbed to a twelve-and-half-year high.

The Australian dollar rose after Tuesday's release, fuelled by mention of the debate over whether to move this month or next.

"If you think it was pretty line ball whether they went one or the other, then having gone in February presumably reduces the odds of March," said Ben Jarman, a senior economist at JPMorgan Chase & Co in Sydney, who predicts another cut in May. "It looks like a fairly marginal deterioration in their outlook pushed them over the line. They're not giving you the sense of a big open-ended resumption of the easing cycle." The currency was trading at 77.88 US cents at 12:40 pm in Sydney from 77.59 US cents before the release. Traders are pricing in about a 60 per cent chance that governor Glenn Stevens will cut rates by another quarter point to 2 per cent at the March meeting, swaps data compiled by Bloomberg showed ahead of the release of the minutes.

Board members noted that "an improvement in the appetite for businesses to take on risk had the potential, should it occur, to lead to much stronger growth in non-mining business investment than currently forecast," the minutes showed.

The minutes also showed an extensive overview of international events since the December policy meeting, including Europe's decision to proceed with quantitative easing, central banks reducing rates, the renewed ructions in Greece, Switzerland's decision to abandon a currency peg and plunging bond yields.

Australia's economy is struggling with the effects of a fall in prices for its key commodity exports including an almost halving of iron ore in 2014, which generates A$1 in every A$5 of export income. The weakening demand in China and rising rate-cut bets have driven about a 17 per cent decline in the Australian dollar since the start of September.

The RBA said the Aussie's depreciation was "less so against a basket of currencies, and that it remained above most estimates of its fundamental value, particularly given the significant declines in key commodity prices." It said a lower exchange rate would be needed to achieve balanced growth.

The nation is on track to record an expansion below its economic potential for six of the past seven years, the longest stretch since the nation's last recession in 1991. The central bank indicated that consumer prices would remain in check.

"The restrained pace of wage increases over the past year or so and accompanying growth in productivity, which had dampened growth in unit labour costs, suggested that low rates of inflation were likely to be sustained," the central bank said.

Australia remains a developed-world rarity in that almost 24 years of growth leave it with 225 basis points of rate ammunition, while policy makers from Tokyo to Frankfurt undertake quantitative easing to reflate their economies.

"Members assessed arguments for acting at this meeting or at the following meeting," the RBA said. "On balance, they judged that moving at this meeting, which offered the opportunity of early additional communication in the forthcoming Statement on Monetary Policy, was the preferred course." BLOOMBERG