Reserve Bank to deliver more rate cuts

By Stuart Fagg, ninemsn Money, November 18, 2008

The Reserve Bank could cut interest rates by as much as 1 percent next month as the economy continues to show signs of slowing.

Economists are predicting that the cash interest rate could fall to as low as 3.5 percent by the end of 2009.

The central bank today released the minutes of its Melbourne Cup day meeting when it shocked the market with a bigger than expected 75 basis point cut in official rates. Thw minutes showed that the RBA's board — which decides on interest rate movements — was offered the choice of a 50 or 75 basis point cut by Governor Glenn Stevens.

The board plumped for the big cut because of the continuing turmoil in financial markets and the darkening outlook for the global economy. The expectation that the cost of living will fall was also a driving factor in the decision, according to the minutes.

Markets are pricing in a 1 percent cut in rates at the Reserve Bank’s December meeting, which takes place in two weeks, although some economists are less confident the bank will deliver such a large cut.

“We are calling for a 50 basis point cut in December, with the risks leaning towards a 75 basis point cut,” Riki Polygenis, economist at ANZ Bank told ninemsn.

Bill Evans, chief economist at Westpac, said that the RBA would cut rates by up to 1 percent next month, in part because retail banks did not pass on the full 75 basis point rate cut last month.

"That limited pass-through has been a direct consequence of the credit crisis, and is likely to remain an impediment to the RBA's attempts to stimulate demand," he said. "For example, in the first two rate cuts of this cycle, the banks passed on 122 basis points of the 125 basis points in RBA cuts in the prime variable mortgage rate. For the November move of 75 basis points, the banks only passed on 58–65 basis points."

Analysts said the RBA has signalled it is set to make further deep cuts to borrowing costs. John Peters, senior economist at Commonwealth Research said the RBA will cut rates by at least 50 basis points in December, with another cut following in February. The RBA does not meet in January.

Polygenis added that the two month break between RBA meetings could trigger a larger cut next month.

“Potentially the two-month break could influence the RBA’s thinking, “ she said. “It could raise the chance of a bigger cut in December.” The meeting minutes also confirmed that the RBA intervened several times in the currency markets as the Australian dollar fell rapidly and volatility reached “unprecedented levels”.

However, it added that despite the interventions, the bank was not defending a particular value for the currency.

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