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Hold the reins on rates

30 August 2015

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Dr Timo Henckel’s areas of expertise include macroeconomics, international economics, international finance and general economics.

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The Reserve Bank of Australia should leave official interest rates unchanged in September despite weak domestic investment, worldwide stock market volatility and a contraction in global trade, Crawford School’s RBA Shadow Board has found.

The RBA Board lowered the official cash rate from 2.25 per cent to 2.0 per cent in May, and will meet on Tuesday to review interest-rate settings.

RBA Shadow Board chair Dr Timo Henckel said while Australia’s unemployment rate rose to 6.3 per cent in July from 6.1 per cent in June, inflation estimates were at 1.5 per cent and well below the RBA target band of two to three per cent.

“Wild swings in global stock markets have made investors edgy, the economic news coming out of China is not favourable and domestic private investment has plummeted,” Dr Henckel said.

“On the other hand, US growth surged to 3.7 per cent annually and fears of a debt crisis in the Euro zone have abated.

“The RBA Shadow Board on balance prefers to keep the cash rate on hold.”

The RBA Shadow Board is a project based at the Centre for Applied Macroeconomic Analysis (CAMA) at Crawford School. It brings together nine of the country’s leading experts to look at the economy and make a probabilistic call on the optimal setting of interest rates ahead of monthly RBA Board meetings. It does not try to predict RBA behavior.

Dr Henckel said the Shadow RBA Board attached a 77 per cent probability that 2.0 per cent should be the appropriate setting for the cash rate, up from 68 per cent in August. It found a nine per cent probability of a needed rate cut, and 14 per cent probability for a needed rate rise.

Dr Henckel said Australia’s economy faced a series of challenges, including uncertainty over the impact of global stock market volatility, the deteriorating outlook for China, and a sizeable contraction in world trade in the first half of the year.

“The deteriorating outlook for the Chinese economy poses the biggest immediate threat to Australia’s export markets and thus to Australia’s GDP,” he said.

“The elephant about to enter the room is the dramatic fall in new private capital expenditure, equalling a sizeable 4.0 per cent in the June quarter, bringing the annual decline to 10.5 per cent and the largest drop since the last recession in 1992.

“The large drop is largely attributable to the contraction of the mining sector. However, firms in other sectors are also planning to cut spending, posing a serious threat to the Australian economy.”

The RBA Shadow Board includes Professor Bob Gregory and Professor Warwick McKibbin, who have both served on the RBA Board.

Other members are Paul Bloxham of HSBC; Dr Mark Crosby; Professor Guay Lim of the University of Melbourne; James Morley of University of New South Wales; Jeffrey Sheen of Macquarie University; Mardi Dungey of University of Tasmania; and John Romalis, Professor of economics at the University of Sydney.

Dr Henckel’s full commentary is available on the CAMA Shadow RBA Board website at https://cama.crawford.anu.edu.au/rba-shadow-board.

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