Here’s the reason behind the RBA’s interest rate decision

The RBA has announced it will hold the cash rate at 2 per cent in July.

The decision was expected as the cash rate cut in May seems to have created little momentum in the Australian economy.

The decision came as Greece is at risk of low liquidity, stalling business and an exit from the eurozone.

China is a large exporter of consumer goods to Greece, and, in turn, Australia is a large exporter of resources to China.

The effect of the ‘Grexit’ crisis could therefore temporarily stunt Australian exports.RBA

However, this is likely to be partially offset by a low Australian dollar, which fell to 75 US cents last Friday.

This is the lowest AUD figure since May 2009.

The low Australian dollar is a result of uncertain markets, particularly in China, putting downward pressure on purchases and demand for the AUD.

Attempts made by the RBA to depreciate the dollar through the cash rate had a perverse effect in May, following a 25 basis point cut.

This is because RBA Governor Glenn Stevens made little indication of a further rate cut this year.

Rather than depreciate the currency, investors bid up the price of the AUD to 80 US cents the following day, assuming that interest rates would hold steady and gradually increase from this point.

Further hindering the effect of the cash rate on the AUD are the US and Japan, who were the first movers in depreciating their currencies.

As the AUD is measured against the USD, cutting the cash rate will do little for the AUD before the US moves to increase its interest rates.

The weak ammunition of the cash rate, combined with uncertain markets, seems to have created a lower AUD, incentivising a hold in the cash rate.

Movements in other economic indicators are mixed

Unemployment decreased to 6 per cent in May, down from 6.1 per cent in April, and full time employment increased by 147,000 positions in May, though this follows a decrease of 241,000 positions in April.

The participation rate fell by just 0.01 per cent in May, suggesting a general improvement in the labour situation.

The deeper problems facing Australia’s labour force, including creative destruction, an aging population and the decline of the resource sector is something the RBA has little influence over.

The economic situation in Australia is worrying, with the unemployment rate higher than the 10 year average of 5.1 per cent.

Wage growth was last measured at a 10 year low of 2.3 per cent.

The NAB Business Confidence Indicator shot up to 7 in May, from 3 in April.

This suggests a greater number of firms have more positive output, productivity and employment outlooks.

However, more recent data shows a significant drop in the Westpac Consumer Confidence Index, which fell from 102.4 in May to 95.30 for June, where an indicator of below 100 indicates pessimism towards future household finance and economic conditions.

This suggests June business confidence numbers could move downwards.

In any case, both business and consumer confidence indices seem to have little coincident with the interest rate.

One area where the cash rate cut in May did seem to induce a strong reaction was in the Melbourne housing market.

May figures from saw annual growth in the median Melbourne house of 8.18 per cent, up from an annual growth rate of 5.55 per cent in April.

In the Sydney market, quarterly growth for house values shot up to almost 4.83 per cent in a single quarter – which is a real dollar value increase of approximately $45,000.

This growth rate is eerily reminiscent of the peak growth rates in Sydney houses in 2014.

A historically low cash rate improves the purchasing power of individuals to buy houses.

ABS finance figures suggest it is largely investors fuelling value increases.

Investor financing for all types of houses overtook owner occupiers in July 2014, and the gap between investor and owner occupier finance is widening.

This is unprecedented in nearly three decades of data collection by the ABS.

Such speculative activity in the housing market likely contributed to a hold decision this month.


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Eliza Owen


Eliza is head Of Residential Research Australia for Corelogic and a respected property market commentator. Eliza holds a first class honours degree in economics from the University of Sydney

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