RBA stays its hand - for now

The Reserve Bank has left the door open to interest rate cuts if the economy weakens, saying the tame outlook for inflation would not stand in the way of further moves to stimulate activity.

The Reserve Bank has left the door open to interest rate cuts if the economy weakens, saying the tame outlook for inflation would not stand in the way of further moves to stimulate activity.

After leaving the cash rate unchanged at its record low of 3 per cent on Tuesday, governor Glenn Stevens said interest rate settings were "appropriate" for an economy in which consumer spending was "moderate" and non-mining investment was "subdued."

While low inflation gave the bank "scope to ease policy further should that be necessary" there was not yet a big enough threat to economic growth to justify a further move.

However, markets are unconvinced the RBA has any urgent plans to cut rates, and on Tuesday night investors were betting there was only a one-in-three chance of a cut next month.

The bank's decision came after a raft of economic data suggested there were early signs the 50 basis points of cuts in October and December were filtering through to the economy.

Retail sales rose by 0.9 per cent in January, surpassing economists' expectations, following three consecutive months of falls.

At the same time, the current account deficit narrowed and there was an increase in government spending for the fourth quarter of last year.

After positive signs for business investment, the Reserve also believes Australia's mining investment boom will last longer than it had thought. But it thinks the outlook is highly uncertain and it is on standby to cut rates again if needed.

Last week's ABS capital expenditure survey played an important role at Tuesday's board meeting in Melbourne, persuading members the mining investment boom was not as weak as had been thought and suggesting non-mining investment might pick up in the second half of the year.

But with so few mining companies involved in the big decisions and with much that could go wrong, the bank is not placing much store on investment forecasts.

In a statement issued after the meeting, Mr Stevens said last year's four rate cuts were "starting to have some of the desired effects".

Consumer spending was growing moderately and home building and house prices were climbing.

However, constrained government spending was holding the economy back.

In a sign of the bank's concern over the currency, Mr Stevens also said the Australian dollar was higher "than might have been expected" given the fall in export prices in recent months.

ANZ's interest rate strategist, Tony Morriss, said investors were placing growing bets the Reserve would keep rates unchanged after the recent run of positive economic news.

"It just seems they are very comfortable with the current policy settings," he said.

Market analysts also say the big banks may soon be forced to cut rates independently of the Reserve in response to lower funding costs, which could reduce the need for official moves.

Macquarie's banking analyst, Mike Wiblin, said it was clear that wholesale, and increasingly deposit, funding costs were now coming down. He said this is likely to put pressure on the banks to cut their mortgage rates, especially in an election year. Mr Wiblin said mortgage rate decisions had been a key driver of profit growth for the Commonwealth and Bendigo Bank, but this was not sustainable.

"Now that their funding costs are going down, they may need to pass on those lower funding costs to mortgage customers they have priced up over the last five years," Mr Wiblin said.

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