Investment bank, Goldman Sachs JBWere now says there won't be a rate rise in Australia next year because of the worsening prospects for the US and world economies, the continuing upward pressure on market interest rates, and the fact that risk levels are now at or near record highs.
The forecast, in a note to clients Wednesday night, represents a big switch on its previous call of a rate in early 2008, possibly in February or March.
The new Goldman's forecast is important because it was one of the first (along with Merrill Lynch) to predict that the tax cut packages and other spending plans in the early weeks of the election campaign would tip the odds towards a November rate rise by the RBA, especially after the September quarter inflation figures revealed a sharp rise in core price pressures.
The outlook for interest rates will become clearer next week.
That's when the Reserve Bank board meets on Tuesday for the last time this year, with its decision to be revealed as usual at 9.30 am on Wednesday, two hours before the September quarter's national accounts are released.
The prospects for a sharp rise in GDP in those accounts are now mixed after surprisingly weak private new capital spending figures for the September quarter were released yesterday, a day after much stronger than expected construction work done figures for the same quarter were released (See story below).
No rate rise but a bias towards tightening would be music to the ears of the Rudd Government, as it would allow it considerable room to adjust fiscal policy in the 2008 budget by pulling back a touch.
Federal Treasurer Wayne Swan and Finance Minister Lindsay Tanner were charged by Prime Minister Rudd yesterday with starting preparation of the 2008 budget
In the client note the investment bank said "Our Australian risk monitor index (ARMI) has spiked to its highest level since 9/11 and has exceeded the levels obtained at the height of the LTCM crisis.
"We have formally removed our Q1 2008 interest rate hike and expect the RBA to retain its tightening bias but leave interest rates on hold in 2008.
"If there is one constant in the RBA's approach to monetary policy it is that in times of high uncertainty the best course of action is to do nothing at all.
"Last night (Tuesday) our US economics team indicated that the risk of a US recession is between 40-45% on the condition that the Fed cuts rates to 3.0% by mid-2008. Should the Fed not cut rates as fast or as much as we anticipate then the risk of recession escalates.
"In the context of where other central banks have stepped back from rate hikes, and the Fed looks set to cut rates, the RBA has successfully tightened financial conditions to the most restrictive level since the mid-1990s. Higher funding costs for banks may yet see a de facto rate rise in coming weeks and the key stimuli for Australia's recent growth performance are beginning to dissipate.
"Inflation pressures will remain uncomfortably high in 1H2008, however much of the inflation momentum is being driven by supply side issues rather than demand. Ultimately, the RBA will subordinate near term domestic inflation pressures to US recession risks.
"This is a time where the RBA's flexible and pragmatic approach to policy making should come to the fore."
"We expect the historically high volatility in the A$ to continue in coming weeks as positive medium-term drivers of the A$ battle against the unwinding of positioning and negative sentiment towards global cyclical plays."
The change by the parent was dramatic with Chief Economist Jan Hatzius predicting that the Federal Reserve will have to slash interest rates to 3% by the middle of next year to head off recession.
His forecast was made before the speech by Fed Vice Chairman, Don Kohn in New York overnight where he all but said the Fed would cut rates at its December 11 meeting.
In his forecast, Mr Hatzius, said US house prices were likely to fall 15% from peak to trough, leaving a fifth of the country's homeowners with $US3 trillion in negative equity.
The US housing market is mired in a full-blown vicious cycle. The ultimate downturn will be considerably worse than we originally anticipated.
"Falling house prices are causing a sharp increase in defaults," he said. Goldman Sachs said losses for banks and others in the financial sector from sub-prime and "Alt-A" mortgage securities would together reach $US500 billion, forcing a contraction in US bank lending of $US2 trillion.
Goldman had previously forecast that the Fed would cut rates a half point to 4% by mid next year.
It said the recession risk had risen to 40%-45%, even if the pace of the rate cuts quickens. "Although Fed officials have given no signs that they plan to ease significantly further, we expect them to change their minds as the housing-related damage becomes more visible," said Mr Hatzius.
The Fed has changed its mind, as Mr Kohn's speech Wednesday in New York made clear.
Meanwhile it was a case of construction strong one day; private new capital spending down the next, and something doesn't quite gel.
Wednesday the Australian Bureau of Statistics revealed that total construction work done in Australia rose 2.8% in the September quarter in seasonally adjusted volume terms.
The value of work done in the quarter was $29.325 billion, and that compared to the revised fall of 2.1% to $28.515 billion in the June quarter.
The ABS also said building work done in the September quarter rose to $16.664 billion, seasonally adjusted, from an upwardly revised $16.027 billion in the June quarter, engineering work done rose to $12.661 billion from $12.489 billion but housing work down fell by almost 1% in the quarter. Non residential
