Monday, 8 September 2014

A matter of interest:

One of the most frequent questions that I get asked is “What is happening with interest rates?” As any economist will tell you that predicting interest rates is not an exact science. However, I can say that with the current economic landscape, the crystal ball has become a little clearer for most economists.
On Tuesday gone (2nd September), the RBA left interest rates on hold once again. There has been no change on the interest rates since August 2013 and we have not seen interest rates rise in the last four years.

Some of the current reasoning behind the hold on interest rates is as follows:
- The rising unemployment (which is now at 6.4% and reaching a twelve year high. It is now also higher than the U.S. unemployment levels for the same period).
- The rising Australian dollar
- Leading to the weakening of commodity prices

The basis for these economic conditions has the RBA nervous that the economy will slow or stall and therefore it is clearly not on their agenda to increase interest rates.
At the cold face of the mortgage market, we are currently seeing “the banks” take unprecedented moves to reduce their variable and fixed rates. This is due in part to their belief that the RBA will not change direction on interest rates given the current economic climate, but also in part due to the fact that banks have returned to overseas wholesale funding as a means to boost their lending capital. In the not so distant past (post GFC) there was a lot of nervousness around wholesale funding for obvious reasons. However, we are now seeing the lessons from the GFC being cautiously put aside and most major banks are seeking to purchase cheaper funds on the international market.

The president of the European Central Bank, Mario Draghi, has said (late last month) that he would use any measures possible to stabilise pricing. Within weeks of that statement, the Commonwealth Bank had reduced its 5 year fixed rate to under 5% (with a number of other banks following).

With the groundswell of economic data pointing to an economic slowdown, some economists may argue that it may be prudent to have a rate cut. However, the RBA governance will concede that any rate drop may add fuel to the current housing price bubble (particular to the eastern states) that Australia is now experiencing.
The RBA’s stance is clearly that the most prudent course for interest rate is likely to be a period of stability.

The overall perspective of most economists that I am reading says that it is not likely that we will have an interest rate rise this year or the first half of 2015.

Attached is a comparative graph of the recent history of interest rates…. Not a lot of downward room to move either.

Andre Thane.

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