Reserve Bank Governor Glenn Stevens took aim at a number of issues in a speech to econometricians (economists whose lives are dominated by models and maths) in Hobart yesterday and in doing so revealed some of the central bank’s core policy thinking that normally doesn’t see the light of day.
The speech was dominated by his comments about value of the dollar, the current and future direction of the economic growth; interest rates, and their direction; housing prices, especially in Sydney; and the communication of this thinking to the markets and the Australian community.
It was one of those rare examples of where we got more from the RBA boss than just the usual dry stuff of his post-board meeting statements every first Tuesday afternoon of the month, or the minutes of those meetings.
And unlike some of his previous speeches, this one had an impact in the markets.
For example, his comments on the dollar and interest rates saw the currency lose half a cent in minutes to trade around 93.80 USc around midday. With the fall after the weak trade data on Wednesday, the currency was 1.30 USc down on its recent high of just over 95 USc on Wednesday morning in offshore trading. The currency closed lower in holiday shortened New York Trading at 93.50 US cents.
"Let me be clear, again, that the exchange rate remains high by historical standards," Mr Stevens told the conference.
"There is little doubt that significant parts of the trade-exposed sectors still find it quite ‘uncomfortable’: it continues to exert acute pressure for cost containment, productivity improvement and business model change.
"When judged against current and likely future trends in the terms of trade, and Australia’s still high costs of production relative to those elsewhere in the world, most measurements would say it is overvalued, and not by just a few cents. Of course, we live in unusual times, with interest rates at the ‘zero lower bound’ in several major jurisdictions.
"Nonetheless, we think that investors are under-estimating the likelihood of a significant fall in the Australian dollar at some point," he said.
That comment, plus his hint that the bank could cut rates not only helped send the dollar lower, they helped boost the market yesterday because he underlined that rates would remain at the current 50 year lows for quite a while – perhaps longer than people had come to understood from the minutes of the RBA’s recent board meetings and his post-meeting statements.
"The level of rates, including for borrowers, is at a 50-year low. The cash rate measured in ‘real’ terms is approximately zero. In either nominal or real terms the cash rate is well below ‘normal’ levels, and comfortably below even the mooted lower ‘new normal’ levels.
"Moreover, we still have ‘ammunition’ on interest rates – we have not got close to the zero lower bound that has afflicted some other countries.
"The low interest rates have been having many of the effects they normally do. Savers have altered their behaviour to look for returns in slightly more risky assets; asset prices have risen; demand for credit has strengthened; and interest sensitive areas of spending, like some areas of consumption and especially dwelling construction, have firmed.
"The exchange rate also declined, though not by as much as might have been expected. The full effects of the very accommodative stance of policy have not been seen at this stage. It will be supporting demand for some time yet,” Mr Stevens said.
That phrase "Moreover, we still have ‘ammunition’ on interest rates" stood out and is the first direct threat that the bank could cut rates further if it needed to.
It was his second major reference to the high value of the currency in two days – on Tuesday afternoon in his post-board meeting statement Mr Stevens warned the currency’s high value "is offering less assistance than it might in achieving balanced growth in the economy”.
But there’s a long way to go, as Mr Stevens has said in the past he believes the dollar should be closer to 80 to 85 cents than at its current level, and he reckons that when the currency falls, it could fall sharply.
Mr Stevens took a cautious tone about growth saying the RBA believed the economy was slowing from the 3% growth rate in the last half of 2013 and the higher rate in the first quarter of this year.
"The most recent set of GDP figures, while certainly encouraging, probably overstate somewhat the true ongoing pace of growth in the economy".
"The Bank’s forecasts from early May, which we have not materially changed, embody ongoing growth but, in the near term is probably a little below trend. We will provide an update of forecasts next month,” Mr Stevens said.
On housing he downplayed the rise in house prices (and lending) in the past year except for one market – Sydney – where he urged caution saying investors in the Sydney market should take care "because of the sharp rise in lending in the past year or so (and much of that is said to be self-managed super funds)".
Mr Stevens also said in the speech that house prices can "sometimes fall" – a warning to all investors and buyers, not just in Sydney.
"The growth of credit outstanding for housing is about 6 to 7 per cent per annum, or slightly above trend nominal income growth. It is hard to mount the soap box to complain about that pace,” Governor Stevens said.
"Nonetheless… investors should take care in the Sydney market, which is the main area where a large increase in borrowing has been occurring.
"The total value of credit approvals for investor loans in New South Wales as a whole is about 130 per cent higher than in 2008, and it is in the investor segment where there has been evidence of some increase in lending with loan-to-value ratios above 80 per cent.”
"People should not assume that prices always rise. They don’t; sometimes they fall.”
He said the RBA bank did not believe the resurgence of the housing market warranted higher interest rates.
"This isn’t because we think that financial stability considerations should be ignored. On the contrary, they should be, and have been given due weight, along with all the other factors we have to take into account, in deciding the interest rate path. We judge that path to have best balanced, to date, all the various considerations," Mr Stevens said.
