Are there reliable indicators of what will happen to interest rates?
What the Reserve Bank says about Interest Rates
In
its latest quarterly statement on the economy, the Reserve
Bank sent its strongest signal yet that higher rates were
back on the agenda.
"It would be surprising if Australian interest
rates did not have to increase further at some stage
in thecurrent expansion," the statement said.
The Reserve also expressed concern about rising inflation,
saying the inflation rate "could be expected to
rise further if the current strengths of domestically
sourced inflation persist".
In the past, the Reserve has used higher interest rates to control inflation and would not hesitate to act again if the risks increase.
Impact of a stronger global economy drives risk of higher rates
The Reserve has kept rates on hold during 2004 because of lingering concerns about the state of the world economic recovery and slower economic growth here.
Those fears have proved unfounded. As the Reserve noted in its quarterly report, the Australian economy has enjoyed a stellar run in 2004.
"At present the Australian economy is continuing to experience a good pace of growth with relatively low inflation. The part of the economy that had been most prone to overheating in the recent period was the housing market and, as noted above, this is now in a process of adjustment," the report said.
Analysts say the statement was shorthand for: "Rates are set to rise over 2004/05".
Other signs of a healthy economy include:
- The consumer price index rose by 0.5 per cent - less than expected - in the June quarter, taking the annual rate to 2.5 per cent. This is well within the Reserve Bank’s target range of 2 to 3 per cent.
- Jobs are growing strongly, with 21,600 new jobs created in July. The unemployment rate edged up over the month however it remains near record lows.
- Business confidence and investment are positive after a patchy start to the year.
On a note of caution, the Federal Government's tax cuts and increased family payments are flowing through to the economy, boosting retail spending. In addition the impact of oil prices increases may combine with the increase in spending to start driving inflation up. This may add to the case for higher rates later this year.
Overseas interest rates heading up
As the US and European economies return to strong growth, their central banks have begun raising rates to ensure sustainable economic growth. In early July the US Federal Reserve Bank - the equivalent of our Reserve Bank - started lifting rates.
In the past, a rate rise in the US often sparked a follow-on rate movement in Australia. But that nexus has become increasingly frail as our economy becomes stronger and more globally focused.
Nevertheless, Australia cannot ignore international rates or the increase in world oil prices forever. The more rates rise in the US and elsewhere, the stronger the likelihood of an eventual rate rise down under.
What the economists say
Leading analysts generally agree that the latest economic data supports the case for a rate rise later this year. Here is what some experts told the Australian Financial Review newspaper recently:
"I think it is a very close call on Australian interest rate moves. A lot will depend on the strength of the economy over the next few quarters and the extent to which inflation pressures emerge in the wage data." – UBS chief economist Scott Haslem
"Rates are set to rise. Timing is the issue. We think the odds are that the rate hike will be delivered in December." – Commonwealth Bank chief economist Michael Blythe
In summary the case for and against a rate rise
For:
- The Reserve Bank still believes household borrowing (mortgages, credit cards, car loans) is increasing at an unsustainable rate.
- Inflation pressures, particularly higher oil (energy) prices, rising wages and retail spending.
- Interest rates are rising around the world.
Against:
- Underlying inflation is still low (2 per cent)
- Real growth in wages is arising from increased productivity and hence not increasing inflation
- The housing market and lending for investment properties is slowing
- Economic growth is forecast to slow in the second half of 2004
- Some parts of Australia are still drought affected.
Play it safe with rates
Guessing at future rate movements is always best left to the experts.
Rates remain near historic lows, and nobody expects rates to rise as dramatically as they have at times in the past 20 years. However, borrowers must recognise that rates do rise. The cyclical nature of home loan interest rates should be taken into account when taking out a loan and planning your budget.
When you are ready to apply for a mortgage or a refinance
package, the Home Loan Club will help you.
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