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Hold steady despite market turmoil

01 February 2016

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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) should hold official interest rates steady in February despite the weakening global economic outlook and turmoil in global markets at the start of 2016, 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 2015 and will meet on Tuesday to review interest-rate settings for the first time in 2016.

RBA Shadow Board chair Dr Timo Henckel said turmoil in the global markets was causing headaches, but holding interest rates steady in Australia remained the best policy.

“It has been an awful start to the new year for people who have invested in shares. Global stock markets have seen falls of more than 15 per cent in places as investors worry about slow growth in China and over-indebtedness in emerging markets,” Dr Henckel said.

“Losses on the Australian share market are more modest but the Australian dollar has been caught in the maelstrom, temporarily trading as low as 69 US cents.”

However, Australia’s unemployment rate has remained steady, inflation remains well below the RBA’s target band, and latest figures have improved the estimate for Australia’s annual GDP growth to 2.5 per cent.

“On balance, the RBA Shadow Board prefers to keep the cash rate on hold, attaching a 69 per cent probability to this being the appropriate policy setting,” he said.

He said the confidence attached to a required rate cut was 17 per cent, down five points from December, while the confidence in a required rate hike rose three points to 14 per cent.

Dr Henckel said the global economic outlook was weakening, although the US Federal Reserve raised the federal funds rate in late 2015.

“The rest of the world is teetering. Global share markets, led by China, suffered big losses in the opening weeks of the new year. Increasingly cracks are showing in emerging market economies, following excessive debt levels and plummeting commodity prices,” Dr Henckel said.

“Consequently, an estimated $740 billion (net) flowed out of emerging markets in 2015, most of it leaving China. Further capital flight is likely, and there is a genuine risk that some countries and some financial institutions will be in serious financial difficulties.

“Overall, global growth is likely to be sluggish, a view shared by the International Monetary Fund, which recently dropped its growth forecast for the world in 2016 from 3.6 per cent to 3.4 per cent.”

In the longer term, the Shadow RBA Board placed a 60 per cent probability on the need for rates to increase in six months, unchanged from December, with a 24 per cent probability (23 per cent in December) on the need for rates to remain at 2.0 per cent. The probability of a needed rate cut in six months was 16 per cent, down one point from December.

The RBA Shadow Board is a project based at the Centre for Applied Macroeconomic Analysis (CAMA). 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. Professor Romalis did not vote in this round.

Dr Henckel’s full commentary is available on the CAMA Shadow RBA Board website at

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