Mortgage Blog

By Terry McCrann

From: Herald Sun  February 25, 2010 12:00AM
THE Reserve Bank will almost certainly lift the official interest rate by 25 points next Tuesday.
Both the governor Glenn Stevens and his deputy Ric Battellino have ‘told us so.’

Not, obviously, in specific words. Indeed they haven’t even yet ‘told’ their fellow board members. The management’s recommendation will be finalised and sent to board members today.

Further, any prediction of what might emerge from Tuesday’s meeting has to carry one big and one small asterisk.

The big one, is that some cataclysmic event doesn’t come out of left field. Like another, heavens forbid, 9/11, a Greek default, or even just a big - very big - fall on Wall St.

The small asterisk is that the actual decision really is made by the board; it doesn’t just rubber stamp what RBA management - Stevens - puts before it. So why only a ’small asterisk?’ Does that deny my very point?

No, it’s only a tiny risk, because the board has clearly signed on to both the overall strategy of lifting rates; and in doing so will, indeed has to, leave the tactical month-to-month (pause or lift) decision to management.

Yesterday’s benign wages - and so, potential future inflation - numbers are essentially irrelevant.
Because the RBA is not lifting rates to target an immediate emerging inflation threat.

Thus for the immediate future any inflation data impacts asymmetrically on the RBA’s tactical rate decisions. Bad data would tend to lock in a rate rise. Good data would be neutral; ‘other’ factors would drive the decision.

This in a sense is what Stevens ‘told us’ last Friday at his public appearance, what Battellino ‘told us’ in his second recent seminal (as in, telling us) speech; and what the whole RBA has ‘told us’ in its latest analysis of the economy a couple of weeks ago.

Simply, broadly, that in this crazy mixed-up world, the RBA has signed on to the China thesis not the Greek one.

That there’s more chance (risk?) of China continuing to boom than Greece causing some sort of financial and then perhaps economic implosion.
If not necessarily something as bad as GFC Mk II. The RBA forecasts in the latest analysis had our growth strengthening to more than 3 per cent through the year and then kicking a little higher next year. And doing so despite the higher interest rates the RBA would deliver.The critical thing to understand is that the RBA believes it has to move rates back to neutral through the course of this year. Indeed, Stevens said that explicitly on Friday.

But also very importantly, it’s doing so not to fight emerging inflation. Again the RBA expects inflation to keep falling back into its 2-3 per cent target ban and stay there through 2011, although edging close to the limit by the end of that year.

So yesterday’s news of benign wages would merely reinforce the RBA confidence. But not divert it from its desire to lift the official rate by between 50 and 100 points. That’s importantly two to four moves.

Why important? Because it goes to the timing.  How many ‘in-a-rows’ increases we could get; how many pauses and of how many months at a time.

Stevens and Co are fully mindful of the uncertainties both ways. China could ‘peter out’ - that probably means growing at ‘only’ 6 per cent rather than 10 per cent. Or the developed world could pick up some pace, backstopping if you like a booming China.

The first would tend to see the RBA only delivering two more rises, if that; with an extended pause after Tuesday’s increase.

The second would tend to see the RBA deliver four rises and do so pretty quickly.

As it would want to get back to a ‘low neutral’ fairly quickly, by say June, and perhaps an ‘upper neutral’ by July-August.

Politics and the budget will also have to be factored in, more to the timing of moves than the aggregate.

The other critical thing to understand about both timing and quantum is that if inflation does start to rear its head, Stevens will want to go above neutral.

In those circumstances, he would end up wanting to deliver, say, six increases over the year. Passing next Tuesday would leave a lot of ground to make up. In those, it needs to be stressed, unexpected circumstances.

Passing next Tuesday would also mean we would go (at least) four months without an official increase.

From the last one in December, to the next (possible) one in April.

That is too long a gap in the context of what the RBA believes is likely to develop over the year and where the official rate is. In three words: still too low.

The RBA wanted time to assess the impact of the initial increases and also the mix of global developments. It has had that time, and the statements all show very clearly how it has decided the balance of risks.

There’s an interesting coincidence around the word ‘four’ and an interesting comment on the psychology of the economentariat.

Three weeks ago, the economentariat unanimously believed the RBA would do ‘four-in-a-row.’ After in December being all-but united in declaiming it wouldn’t possibly contemplate ‘three-in-a-row.’

Not there’s a significant sanguinity that the RBA would sit on its hands for ‘four months.’ It won’t.

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