Fears that the rise in interest rates had gone too far, thanks to the extra half a per cent or more from the banks, drove the change in interest rate policy by the Reserve Bank at its board meeting on August 5.
The Reserve Bank’s move to a rate cutting stance from early this month, despite our continuing high inflation rate, can be clearly seen from the minutes of the August 5 board meeting, released yesterday morning.
To put it simply, the bank now believes a rate cut is needed to lessen the tightness of monetary policy: or put it another way, to release the pressures of the 1.55% in rate rises from it and the banks since last August.
The key phrase from the minutes was:” Given there had been a significant change in borrowing behaviour, confidence was weaker, asset prices had declined and slower overall growth was in prospect, tighter financial conditions were not warranted. Indeed, less restrictive conditions could soon be called for, otherwise the risk of a deeper and more persistent slowing in the economy would increase."
"Soon be called for" means next month, on September 2 and either 0.25% or 0.50%.
Looking at the above graph, the bank is taking aim at the extra rate rises loaded on by the banks and will do so via a cut of at least 0.50% in one or two instalments.
The change in the bank’s attitude to rate cuts was first noted in the statement after the August 5 meeting by Governor, Glenn Stevens, and then in two speeches last week by Assistant Governor, Phil Lowe and Deputy Governor, Ric Battellino.
While our present high inflation rate got the usual mention in the minutes, as did the rising injection of money from higher iron ore, oil and coal prices, the slowing domestic economy and the much sharper tightening in financial conditions seems to have won the day.
In fact it seems to have been fears that monetary policy had been further tightened by the extra rate increases levied by the banks from the credit crunch impact (and the unspoken impact of sharply higher petrol prices) that seems to have forced the RBA’s hand.
The extra 0.55% imposed by the banks on top of the 1% in rate rises from the RBA since last August, played a big part in producing the switch to a rate cutting stance.
There was little mention of the impact of the surge in oil and petrol prices, but they obviously had a big impact, as we have seen from some retailers’ sales figures, magazine circulation figures, especially for the June half year and several other indicators on consumer spending and consumer confidence.
The comments by the bank (in bold) would also explain why the bank has been so forthright in bashing the banks over passing on rate cuts to consumers.
The RBA has become fearful that monetary policy may be excessively tight!
After pointing out that the current high inflation rate, plus even higher readings later in the year "argued for maintaining the current stance of policy," the board went on to canvass what was actually happening in the economy.
And, compared to what it said after the previous board meeting (On balance, "while members remained concerned about the current rate of inflation and the uncertainties about the outlook, the increasing signs that demand was slowing suggested that the existing policy setting was exerting the appropriate degree of restraint. Provided demand continued to evolve as expected, inflation was likely to decline over time") the change was enormous.
"Members were conscious that financial conditions were clearly quite tight, and effectively getting tighter as a result of ongoing pressure on lenders’ cost of funds in the market.
"Given there had been a significant change in borrowing behaviour, confidence was weaker, asset prices had declined and slower overall growth was in prospect, tighter financial conditions were not warranted. Indeed, less restrictive conditions could soon be called for, otherwise the risk of a deeper and more persistent slowing in the economy would increase. (That’s the key phrase in the minutes).
"On these considerations, a case could be made for an early reduction in the cash rate.
"Weighing up all these considerations, members judged that the current stance of policy was appropriate for the time being.
"Nonetheless, given the slower trend in demand, scope to move towards a less restrictive setting of monetary policy was judged to be increasing."
And early next month the bank will cut rates by at least 0.25% and then back up in October, or hack its cash rate back to 6.75% to ease the squeeze.
The change in policy and attitude at the RBA can be seen from comparing the above quotes with what was said after the August 5 meeting in the Governor’s statement, which again didn’t quite reflect the change in policy
In the statement after the August 5 meeting Governor Glenn Stevens said:
"Given the opposing forces at work, considerable uncertainty has surrounded the outlook for demand and inflation.
“On balance, however, it is looking more likely that demand will remain subdued, and economic growth will be fairly slow, over the period ahead. Inflation is likely to remain relatively high in the short term, with the CPI affected by high global oil prices.
“Looking further ahead, inflation in both CPI and underlying terms is likely to decline over time, given the outlook for demand, provided wages growth remains moderate. The Bank’s fo
