RBA won't wait for the polls

The election will not deter the RBA from making a big call on interest rates. If inflation remains moderate in Wednesday's data, rates could go to a record low right in the middle of the campaign.

It would be absurd to think that the Australian Securities and Investment Commission would pause its work, investigations and new actions during the caretaker period of the soon to be announced Federal election.

It is similarly ridiculous to think that the Reserve Bank of Australia, which has carriage over interest rates, monetary policy and the exchange rate (among other things), to hold off its critically important role in setting interest rates during the election campaign.

If, as seems likely, the election is on either 24 or 31 August, Prime Minister Rudd will need to inform the Governor General of the day of the poll by today, 22 July (for August 24) or 29 July for a 31 August election date.

This means that the RBA Board meeting for 6 August will be in the early days of the election campaign. As the recent Bloomberg survey of market economists shows, it is a line-ball call whether or not the RBA will trim the cash rate to 2.5 per cent.  The futures market is similarly priced with a roughly 50/50 chance for a 25 basis point interest rate cut on 6 August.

There is still some important data to come between now and the date of the Board meeting which will no doubt lock in the RBA’s ultimate decision but on balance, an interest rate cut is likely to be needed to help support consumer and business cash flows, underpin spending and investment and with that ensuring the inflation rate remains within target.

There are, however, some in the market who reckon that the RBA will sit on its hands in August for the sole reason of the election campaign. The thinking is along the lines that the Bank will not want to be seen to be politicking or something similar with a policy change in the hustle and bustle of the campaign, a point that is important to consider given how vital interest rate changes are to the household sector, small business and therefore voters in the Australian economy.

It is not correct to think the RBA will pull up stumps and go for a break once the election is called. If the RBA Board judges the circumstance require an adjustment in interest rates, they will implement that change in rates. This is in much the same way that ASIC will continue doing its work, the navy will do its work and so it goes.

The RBA is also scheduled to release its quarterly Statement on Monetary Policy on 9 August and whether or not there is an election campaign, this far reaching assessment of economic and market trends and risks will be released.

During the 2007 election campaign, the RBA showed its independence and willingness to work with an interest rate rise on 7 November, during the caretaker period for the government that was heading to the polls on 24 November 2007.

The RBA acted without fear or favour with its decision to lift the cash rate as it fought furiously to cool what was an increasingly overheated economy driven by a terms of trade boom and pro-cyclical fiscal policy settings which were fuelling a lift in inflation towards a staggering 5 per cent.

Arguably the RBA should have hiked interest rates a little earlier and by a greater amount given the inflation break-out, just as some economists are now suggesting the RBA should cut interest rates now and more aggressively given the outlook for the terms of trade and China.

Whatever happens, the RBA has shown that it continues to work, make and implement decisions during election campaigns and the next month or two is unlikely to be any different.

The big issues for the RBA as it prepared for next month’s board meeting will be its judgment on economic growth, the state of the labour market and inflation.

Since the last RBA meeting, where it left rates steady at 2.75 per cent, there has been generally softer news on the economy. Importantly, the unemployment rate is near a four year high of 5.7 per cent, while retail spending and some business sentiment measures remain only moderate. News from China and India is increasingly problematic and the Australian dollar depreciation appears to have paused.

The June quarter inflation data, released this Wednesday, will be a top tier driver of whether the RBA cuts or not. A quarterly rise in the CPI of 0.5 per cent (or less) should be enough to see the RBA cut rates to a fresh record low of 2.5 per cent. It will do so whether or not the election campaign has started or not.

The RBA has a job to do, election or no election – it is as simple as that.

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