A surprise expansion in the trade surplus for September won’t stop the Reserve Bank from cutting rates again, nor will the poor mid year economic forecasts from the Federal Government.

But a very sharp, 7% plunge in total building approvals in September completely justified the 0.75% cut in rates yesterday, and the 1% in October, and possibly more to come.

The extent of the slump in approvals was surprisingly large and bad, as there had been a steadying trend emerging, according to some economists. The October figures will not be good.

The Australian Bureau of Statistics said the seasonally adjusted estimate for total dwelling units approved fell 7.2% in September following a fall of 3.4% in August.

“The seasonally adjusted estimate for private sector houses approved fell 4.7% in September and the seasonally adjusted estimate for private sector other dwellings approved fell 15.2% in September and is now showing a fall of 4.8% in August.”

The figures were clearly influenced by the mid month slump and credit freeze after the failure of Lehman brothers. That continued into October and those figures now look as though they will be horrible.

The latest economic forecasts, released this morning as speculation rose about the US election results, showed a $40 billion hole in the budgeted surpluses over the next four years and a rise in unemployment to 5.75% in 2010.

But that wouldn’t have surprised the RBA, which will update its own forecasts (but not for employment, it’s too political) in its new Monetary Policy report next Monday.

Other ABS figures this morning showed the trade surplus increased to $1.46 billion from a revised $1.24 billion in August, more than double the market estimate of $500 million according to a Bloomberg survey.

Exports rose 8% to a record $26.5 billion in September, with the value of iron ore shipments up 19% and coal 14%. Imports jumped 7% to $25 billion, led by a 7% increase in food shipments.

We can expect another rate cut of 0.50% next month as an early Christmas present, according to market economists.

At least two of the market economists see a cash rate of 4.25% by the end of March next year, while UBS and TD Securities sees a rate of 4% (ah, a bidding war on the downside is underway among forecasters).

Reaction today to yesterday’s second larger than expected rate cut in a row was positive, for negative reasons.

The slowing economy is the negative. The positive was that the central bank is still ahead of the curve (that’s economist speak for cutting by more than you’d normally expect) and there’s still a chance we could avoid a recession, although there’s a gathering belief that won’t happen.

Goldman Sachs JBWere, who are on record as seeing the economy in a “technical recession” in the current back half of calendar 2008 was sort of happy.

“In line with our bearish growth outlook, such an aggressive rate cut is certainly both welcome and warranted – but it was also somewhat surprising given some of the RBA’s hawkish rhetoric over recent weeks.

“While the RBA may be using speeches to calm markets and downplay the risk of a domestic recession, actions speak louder than words – not since the depths of the last recession (Nov 1991) has the RBA eased policy so aggressively as it has in recent months. The central bank is clearly very concerned about the possibility of a severe downturn in the Australian economy. We sense this concern is well-placed.

“The commentary accompanying the decision appears to attribute the aggressive easing to a downgrade to the outlook for domestic activity as the positive boost to income from higher commodity prices unwinds. We suspect Monday’s much weaker-than-expected economic data also had a material influence on the decision – this may eventually be borne out in the Board Minutes.

“The RBA appears quite open to further rate reductions and we believe these will be delivered as the degree of the current slowdown becomes increasingly evident (and the inflation outlook becomes more benign).

“We have retained our previous rates profile and expect a further 50bp reduction in December and an additional 50bp by March 2009. This will take the cash rate to 4.25% – which is also the terminal rate reached during the previous easing cycle (December 2001).

“Together with a boost from fiscal policy and the weaker currency, these rate cuts will position the economy for a solid recovery over 2H09 – but may come too late to avert a mild recession over 2H08.

Merrill Lynch said “The RBA is taking a pre-emptive approach to easing monetary policy as indicators of global economic activity weaken sharply. This will help to shore up household income, even as employment growth slows. Despite slowing income, the household debt servicing burden is likely to improve 5-6% points by mid-2009.

“The Board left the outlook for further rate cuts open, and will ‘make adjustments as needed to promote sustainable growth consistent with the 2-3 per cent inflation target over time’. We expect the Bank to cut a further 50bp at the December meeting.”

UBS was on the same wavelength: “Given the extent of the change in the growth outlook, the RBA is likely to see getting back to neutral as its first and urgent priority, regardless of current inflation prints (…and we note UBS now expects 2009 to bring the sharpest global downturn since the 1982/83).

“With the neutral cash rate likely no more than 5.0% (given the increase in commercial borrowing rates over the RBA cash rate, and tighter credit conditions generally), we still expect the RBA to cut a further 50bp at their December meeting. Thereafter, lower cash rates will be dependent partly on signs of easing inflation pressures and some better quarterly inflation prints.

But given the evident moderation in growth and confidence (and commodity prices), we do see inflation easing faster than generally expected in 2009 (and expect some downward revision to the RBA’s inflation forecasts in next week’s SOMP).

“This will pave the way for further, more modest, cash rate reductions in 2009. Allowing today’s higher than expected cash rate cut to flow through our profile (given much of the higher than forecast cut is not being passed through to borrowers), we now target a 4.00% cash rate by May 2009 (was 4.25%) and the risks on this forecast still lie to the downside.

Peter Fray

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