Yesterday’s rate cut really just unwinds the tightening of financial conditions we’ve seen over the past 6 months. We’re playing catch-up.
The RBA surprised a few folks with their rate cut yesterday. As I’ve written before I thought rate cuts were coming, but I didn’t think we’d see them quite so soon.
But it seems Glenn Stevens hand got forced by the unfolding political cycle. If he didn’t cut now, his next chance would have been just a few weeks before the election – and the Governor is not in the habit of dropping bombs.
After that, it’s out to August. 3 months can be a long time in economic cycles, so the RBA decided to get out on the front foot. Bravo. Lovely shot, sir.
In my mind this rate cut is backward looking. That is, the RBA’s hand has been forced by the way economic conditions have panned out. It doesn’t say so much about where we’re going, as where we are now.
And it’s a rate cut we deserve.
First up there is the inflation data. The last inflation read a few weeks ago was a bit of a shocker. It was lower than everyone was expecting, and has inflation dropping below the RBA’s target band.
And that means the RBA is missing their target. If they didn’t act, it would have raised questions about how committed they were to their target.
How’s your ticker, Glenn?
And economic data can be choppy, but deflation in the March quarter, and slower inflation over the year was broad based. You couldn’t just fob it off as some unseasonably low twinkie prices. Deflation was everywhere. It demanded action.
But really the low inflation number probably just gives Glenn the cover he needs to deliver the rate cuts he wants.
Because the reality is that financial conditions have become tougher over the past year. And its starting to put a drag on things.
Tighter financial conditions are coming from two places. First, offshore funding costs are rising. This is where the banks get a lot of their money, so the banks money is getting more expensive.
That means they either pass the costs on to us, or take a hit to profits (guess which they prefer.)
So far they’ve absorbed a fair bit of it, but some have raised rates slightly, and the smaller banks are letting it be known that funding costs are squeezing their bottom line.
It’s likely we would have seen rates keep drifting upwards through the rest of this year.
And it’s the reason why ANZ decided not to pass yesterday’s rate cut on in full. Listen to Group Executive Fred Ohlsson:
The background is that wholesale funding costs have again been rising in recent months. While we’ve absorbed this for some time and taken steps to reduce costs in our own business, higher funding costs mean we are only in a position to pass on a portion of the reduction in the cash rate to our customers.”
At the same time, the APRA restrictions that kicked in around the middle of last year have put a brake on bank lending, most pointedly on mortgage lending.
We are seeing credit growth slowing, and with that, a temporary cooling in the property market. (Temporary so long as we don’t see more restrictions.)
That also gives Glenn a bit of cover. The most common criticism you hear when the RBA cuts rate is that it’s pouring fuel on the property bubble. (Ugly metaphor I know).
Right now, with growth slowing in every capital city, and the APRA restrictions seemingly doing their job, this criticism will have less weight.
So the point is, that with increasing offshore funding costs and the APRA restrictions, we’ve actually been living in one of the tightest credit environments in recent times.
Putting them together, which is what this chart from Goldman Sachs does, we can see that financial conditions are tighter now than at any time in the past four years, including the last four rate cuts.
The RBA is just playing catch up. Yesterday’s rate cut just alleviates the tighter conditions we’ve been experiencing in recent times.
In that sense, it’s a rate cut we deserve.
My feeling is that this should help the property market in particular. The APRA restrictions have been noticeable, and they’ve shaken confidence a bit. But this rate cut will bring mortgage rates down to incredibly low levels. It should give things a spark.
However, the Aussie dollar didn’t seem to move much over night, and it’s pretty clear that the RBA would like to see a lower dollar. The dollar is one of the things making it a bit tough for the Aussie economy right now.
So I think we’ll see another rate cut. I wouldn’t expect to see it before the election, but I’ll certainly have my eye on the August meeting.
What do you think? More rate cuts on the way?