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No need for holiday season rate cut

29 November 2015

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Professor Warwick McKibbin is an ANU Public Policy Fellow at Crawford School. Professor McKibbin was a member of the Board of the Reserve Bank of Australia from 2001- 2011. He teaches Modelling the World Economy: techniques and policy implications (IDEC8127).

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The Reserve Bank of Australia (RBA) has no need to cut interest rates ahead of the Christmas holiday season and should keep official interest rates on hold at its final board meeting of the year, 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 for the final time in 2015, with the next policy meeting not due until February next year.

RBA Shadow Board chair Dr Timo Henckel said despite a big drop in Australia’s unemployment rate, annual inflation is well contained and domestic economic growth remains soft.

“The RBA Shadow Board on balance prefers to keep the cash rate on hold, attaching a 67 per cent probability to this being the appropriate policy setting,” Dr Henckel said.

“According to the Australian Bureau of Statistics, Australia’s unemployment rate fell in October from 6.2 per cent to 5.9 per cent, although the accuracy of recent ABS numbers is questionable. Employment, both full time and part time, has expanded and the participation rate reversed its recent decline. These are all positive signs,” he said.

Dr Henckel said consumer and producer sentiment measures continue to paint a motley picture, the S&P/ASX200 continues to move sideways around the 5,200 mark, while the outlook for the property market has not changed, with signs it is cooling gently rather than facing an abrupt correction.

Overseas, US growth data and other indicators point to a healthy economic expansion, with global markets preparing for the US Federal Reserve to raise the federal funds rate at its last meeting of the year.

However, other global risks remain.

“These include geopolitical tension, following the terrorist attacks in Paris, as well as economic risks associated with emerging countries’ excessive debt levels,” Dr Henckel said.

Dr Henckel said the probability of a needed rate cut in December was 22 per cent, down four points from November. The probable need for a rate increase was 11 per cent, compared to nine per cent in November.

In the longer term, the Shadow RBA Board placed a 60 per cent probability on the need for rates to increase in six months, up two points from November, with only a 23 per cent probability on the need for rates to remain at 2.0 per cent. The probability of a needed rate cut in six months was 17 percent compared to 19 per cent in November.

Looking 12 months ahead, the Shadow RBA board placed a 67 per cent probability on rates needing to be higher, with an 18 per cent probability on the need for rates to remain at 2.0 per cent. The probability of lower interest rates in 12 months was 16 per cent.

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.

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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