Just one move left for Reserve Bank

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Australia’s central bank cuts official interest rates to an historic low of 0.5 percent

3 March 2020 | Shane Oliver, AMP Capital

The RBA has cut the cash rate by another 0.25% following its March board meeting taking it to a record low of just 0.5%. This makes the RBA the first major central bank beyond the PBOC to ease in response to the coronavirus outbreak – but others including the Fed are all heading in the same direction – as is likely to become further evident tonight after a G7 countries finance ministers and central bankers phone call.

Some banks have already passed the rate cut on in full, taking headline (standard variable) mortgage rates to their lowest since the early 1950s, and many (if not most) of the mortgage rates borrowers actually pay to new record lows.

Significant effect of COVID-19 

In moving to cut rates for the fourth time since June last year the RBA cited the need “to support the economy as it responds to the coronavirus outbreak” which will mean weaker than expected global growth and a “significant effect on the Australian economy”.

“March quarter GDP growth likely to be noticeably weaker than expected,” as a result the outbreak is expected “to delay progress towards full employment and the inflation target.”

The RBA also indicated that it is prepared to ease again to support the economy.

Rate cuts won’t kill the virus or solve supply side constraints; but they will help ease the pain for borrowers through this uncertain period and will help boost growth once the virus is under control.

A boost but probably not enough

The cut in rates to record lows does risk dampening confidence in the short-term and it’s a negative for those relying on income from bank deposits. However, doing nothing about weak growth and the new threat posed by coronavirus would be a bigger blow to confidence in the economy.

The value of household debt is more than double the value of household deposits so the saving for those with a mortgage will be more than double the loss of income for those relying on bank deposits and rate cuts help keep the $A lower than it otherwise would be which helps companies that compete internationally.

On balance, there is a boost to growth but it’s doubtful that it will be enough. Ideally more help from fiscal stimulus is required but so far the Government appears to be focused on a “targeted” and “modest” approach. As a result, most the pressure to support the economy remains on the RBA.

For this reason, we expect another rate cut taking the cash rate to 0.25% next month.

With the RBA signalling on several occasions that 0.25% is likely the floor for the cash rate we don’t see rates falling beyond this as there is not much evidence that zero of negative rates would help.

Given the size of the threat to growth once rate cuts are exhausted at 0.25% the RBA is likely to turn to quantitative easing during the second half. Ideally this should be combined with broad based fiscal stimulus.

Dr Shane Oliver is Head of Investment Strategy and Chief Economist, AMP Capital