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RBA May Need Deeper Rate Cuts as Currency Hits Growth, OECD Says

RBA May Need Deeper Rate Cuts as Currency Hits Growth
A pedestrian walks past the Reserve Bank of Australia headquarters in Sydney, Australia. Photographer: Brendon Thorne/Bloomberg

The Reserve Bank of Australia may need to cut its benchmark interest rate further as the local dollar’s resilience impedes economic growth, the Organization for Economic Cooperation and Development said.

Growth will slow to 3 percent in 2013 from 3.7 percent this year, the OECD said in a survey released in Paris today. The OECD urged the government to abandon efforts to prop up industries such as carmakers that are struggling to adjust to intensified competition from abroad.

Australia’s central bank lowered borrowing costs by 1.75 percentage points to 3 percent in the past 14 months as the local currency’s sustained strength contains inflation and a mining investment boom crests. The local dollar has risen about 10 percent since this year’s low on June 1 as offshore investors sought a safe haven, even as Australia’s key commodity prices eased in the past year.

“The conduct of monetary policy needs to cope with the conflicting pressures on the currency,” the OECD said in the report on Australia. “A lower sensitivity of the currency to falling commodity prices might require stronger cuts in the cash rate to support demand.”

The OECD backed the government’s drive to return its budget to surplus, citing a good backdrop of low unemployment, a growth outlook “close to potential” and still high terms of trade, referring to a gauge of export prices relative to import prices.

‘Opportune Time’

“Now is an opportune time for fiscal consolidation,” the OECD said. “Maintaining a solid government balance sheet offers valuable protection against large-scale shocks, as the 2008-09 crisis demonstrated.”

Treasurer Wayne Swan said the report showed Australia’s economy “stands tall amongst its peers” after 21 years without a recession. He cited the OECD’s comments on the government’s fiscal tightening that implies less upward pressure on borrowing costs and the currency.

Prices of Australia’s key export, iron ore, have rebounded since reaching a three-year low on Sept. 5 after China announced spending on new subways and roads. Prime Minister Julia Gillard’s government is bidding for a A$44 billion ($46 billion) turnaround in the budget to surplus in time for an election due late next year.

The goal has been jeopardized by a weaker international outlook, lower prices for commodity exporters and the high currency. The so-called Aussie has averaged about $1.03 in the past two years, compared with about 73 U.S. cents in the prior decade.

Global ‘Mutation’

The OECD urged the government to maintain the economy’s flexibility, saying Australia can’t escape “a mutation of the world economy” that is likely to produce a permanent shift in the nation’s comparative advantage. It said policies that help workers and firms adapt are more effective than those that protect jobs or businesses in certain regions and industries.

“Using public subsidies to keep resources in sectors adversely affected by such changes, such as the automotive industry, would likely prove futile and expensive and imply lost opportunities elsewhere,” the OECD said. “It will force stiffer adjustments on sectors that do not benefit from such special support, and over time become a drag on living standards.”

Australia’s government has committed A$5.4 billion to the car industry up to 2020, Greg Combet, industry minister, said at a news conference in Sydney July 17. The country’s three car manufacturers have cut almost 1,000 jobs over the past year.

Job Cuts

General Motors Co.’s Holden unit said last month it would fire about 1 in 13 workers at its main plant in Adelaide, Ford Motor Co. said in July it would cut about one in seven manufacturing jobs, and Toyota Motor Corp. said in January it would get rid of about one-tenth of the workforce at its manufacturing plant in Melbourne.

“It is also important not to procrastinate in making these adjustments, for they are easier to undertake in current circumstances, when the economy is growing strongly and resources are available to ease the transition and to compensate the ‘losers’ from the adjustment process,” the report showed.

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