Australia will get a rate cut within the next four weeks, either at tomorrow’s April meeting of the Reserve Bank board, or more likely, the May 1 conflab.

From virtually no chance a week or so ago, the odds of a cut tomorrow gave tightened noticeably, but May meeting is the favourite among RBA watchers. You could argue that the case for a rate cut from tomorrow’s board meeting is not as strong as one for May, but don’t rule one out at 2.20pm completely.

Nothing has changed significantly in the economy, except last week’s speech and comments from federal Treasurer Wayne Swan that the government will hack spending in the 2012-13 budget to get a deficit, and give the RBA room to cut once, or twice in the lead-up to the budget statement in early May.

And there have been several commentaries late last week, over the weekend and this morning (such as David Bassanese in The Australian Financial Review (buried on page 42 by the trio of page one “exclusives”) that point out how the various factors looked at by the RBA are changing and how some of the language from governor Glenn Stevens and other senior officials has also changed in the past month to six weeks).

This morning’s poor data on building approvals (remember this is a volatile series reflecting the surges and slumps in home unit and apartment approvals) for February will be used to buttress calls for a rate cut by some property urgers. Tomorrow’s retail sales data for February will be available to the RBA board because it will be out at 11.30am.

The ABS said this morning that building approvals show that the number of dwellings approved fell 7.8% in February, seasonally adjusted, following a rise of 1.1% in January. Dwelling approvals fell in February in New South Wales (-41.2%) but rose in Queensland (13.0%), South Australia (10.1%), Tasmania (10.0%), Western Australia (5.7%) and Victoria (1.1%) in seasonally adjusted terms.

The ABS said that seasonally adjusted, approvals for private sector houses fell 3.4% in February with falls in South Australia (-11.9%), Western Australia (-8.4%), New South Wales (-2.1%), Queensland (-1.6%) and Victoria (-0.6%). There was a 15.8% slide in the number of approvals for other dwellings, such as units and apartments and one again caused the big fall.

Last week’s first Financial Stability Review has also been an important indicator as it shows the RBA is more relaxed about the prospects for the financial system now that the threat from Europe has retreated (even though Spain is emerging as a major problem).

Since the first rate cut last November, it has been clear the bank was looking at Europe, and then the local economy, before deciding to cut rates. The commentary after the rate cut from the minutes of the December meeting made it clear that the threat from Europe was the driver of the two rate cuts, and that the bank was still very cautious about what was happening in the domestic economy as the resources investment boom continues.

Since then Europe has improved, financial markets have surged (even Australia’s sharemarket managed a 7% gain in the first quarter, but that underperformed the 11% gain in world markets, the 19.3% jump in Japan, 12% in the main US index, the S&P 500) and solid gains for even Greece (up 6.7% and outperforming Britain, which saw a 3.7% rise). But they are gains, and confidence among big investors is rising and the outlook for the Japanese and US economies is the best for three years (although the US in particular has seen similar confidence shredded in 2010 and 2011 by the events in Europe).

China’s economy may be bottoming (the two surveys of manufacturing activity yesterday cancelled each other with the official survey (which looks at big companies) up sharply to a four-month high) and the HSBC survey falling for the fourth month in the past five to levels indicating a solid slowdown among small firms (which it surveys).

But if China slides deeper, then the RBA will cut, but not yet.

So the domestic economy is back to the forefront of RBA thinking and the Financial Stability Review made it clear the bank is happy with the caution being shown by consumers who are de-levering, saving more and spending less on housing in particular.

It’s for that reason, that the chances of a rate cut have become possible tomorrow, but more probable on May 1. The RBA knows people continue to spend on online purchases, overseas travel, cars and personal services, and not on electronic goods (with the exception of Apple’s products, which are booming and taking growth from retailers).

This spending is not going to trigger a competition for resources in the mining boom (not with the savings rate at 9.5%), a surge in housing will, over the next 18 months. That’s where much of the inflationary fears for the bank reside (along with the passing on of carbon tax costs into the wider economy and embedding them in prices, which is starting to look a possibility).

The caution shown by consumers, the different spending, the high savings, high level of bank deposits, the injection of equity into home mortgages, instead of monetising it via home equity and margin loans to consumer or buy shares, gives the RBA room to cut once, perhaps twice in the next four or five months. The bank won’t cut to offset the impact of the carbon tax, which remains a big unknown and could see just one rate reduction ahead of July 1.

More analysts and economists reckon the economy isn’t doing well (“East coast recession” is how Goldman Sachs describes it). Rates are cut for the whole economy, not just sectors or regions. The bad debts and profit downgrades from Stockland, QR National and Bank of Queensland suggest that Queensland remains a problem area because of the property slump and the big wet of 2011-12.

The 3.6% or so fall in the value of the Aussie dollar against the greenback in March is another factor the bank will watch: it sees the dollar as weakening because of the falling terms of trade (down 4.7% in the December quarter), and heading for another fall in the March quarter. That will ease a bit of pressure on manufacturing and tourism, which are holding up surprisingly well.

The March 6 meeting minutes finished with these paragraphs:

“Members were also alert to the uncertainties inherent in assessing the response of the domestic economy to the disparate forces at work, including the very large rise in resources investment and the high exchange rate. To date, the unemployment rate had remained at a low level and inflation broadly consistent with the medium-term target.

“On balance, the board considered that it was appropriate for interest rates to be around their average levels, which was judged to be the case at present. The board would continue to monitor both how the global economy evolved and the course of domestic economic activity and prices.

“Average rates means a neutral monetary policy stance, but not ‘accommodative’; (another word favoured by economists in these circumstances). It all comes down to how the bank judges the  domestic economy.

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Peter Fray
Peter Fray
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