Australia Cuts Rates to Record 2%; Markets Signal Stevens Done

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Australia's Growth Outlook
Morning commuters walk across Southgate Bridge as buildings stand in the central business district in Melbourne. The RBA is trying to encourage growth in services, manufacturing and retailing to offset a decline in mining investment that helped drive the past decade of Australia’s 24 years of growth. Photographer: Carla Gottgens/Bloomberg

Australia cut interest rates to a fresh record low and said there are signs of improving household spending, sending the currency and bond yields higher as markets bet policy makers won’t ease further.

The central bank lowered the key rate to 2 percent from 2.25 percent Tuesday, as predicted by traders and economists. Governor Glenn Stevens said in an accompanying statement “the inflation outlook provided the opportunity for monetary policy to be eased further, so as to reinforce recent encouraging trends in household demand.”

While weaker business investment and subdued spending by the government is weighing on the economy, encouraging the RBA to cut, there are signs that low borrowing costs are starting to spur stronger demand from households. Stevens cited a better jobs market and gave no indication the central bank was considering a further easing.

“The Australian dollar is definitely trading as though investors think the RBA has drawn the line at 2 percent,” said Sean Callow, a strategist at Westpac Banking Corp. in Sydney, which forecast today’s cut and then no change into 2016. “The statement reinforces that outlook, with the more upbeat commentary on household demand and employment.”

The Aussie climbed more than half a U.S. cent after the decision and was trading at 79.03 cents at 3:45 p.m. in Sydney from 78.53 cents prior to the release. Australia’s three-year bond yield rose by the most in three months, rising 12 basis points to 2.03 percent -- above the Reserve Bank of Australia’s cash rate for the first time since November.

Swaps traders are betting that 2 percent is as low as the RBA will go. After the move, they were pricing in a 59 percent chance the benchmark will be at that level in October.

The country’s benchmark equities gauge, the S&P/ASX 200 Index, slipped 0.1 percent to 5,816.90.

Economic Outlook

The central bank will release updated quarterly economic forecasts Friday, providing an insight into the growth outlook.

The currency is proving inconvenient in the RBA’s efforts to rebalance the economy, having jumped 4 percent since the April 7 meeting and the best performer among major currencies after the Norwegian Krone over the period.

“The Australian dollar has declined noticeably against a rising U.S. dollar over the past year, though less so against a basket of currencies,” Stevens said. “Further depreciation seems both likely and necessary, particularly given the significant declines in key commodity prices.”

Iron Ore

Iron ore, Australia’s biggest export, sank to a 10-year low at the start of April before going on to cap the biggest monthly gain in almost two years as BHP Billiton Ltd. said it was deferring port works, restraining the pace of its expansion.

The outlook for Australia’s key trading partner, China, remains clouded as growth cools in the world’s second-largest economy. A Chinese manufacturing gauge released Monday trailed economists’ estimates in April as new orders declined.

Mitigating against further rate cuts are data last month that showed unemployment unexpectedly fell to 6.1 percent in March, as the economy added 37,700 jobs, more than double the number of positions predicted by economists. Sydney home prices also climbed 14.5 percent in April from a year earlier as buyers responded to record-low borrowing costs.

Australian households have around A$850 billion in bank deposits but owe A$2.1 trillion in debt, so the household sector as a whole is clearly a net beneficiary of lower interest rates, said Shane Oliver, head of investment strategy at AMP Capital Investors Ltd.

Australia & New Zealand Banking Group Ltd. passed on the RBA’s reduction, lowering its standard variable mortgage rate 5.38 percent. National Australia Bank Ltd. and Commonwealth Bank of Australia said their home loan rates are under review.

“We think the easing cycle ends today,” said Stephen Walters, Sydney-based chief economist at JPMorgan Chase & Co. “On our rate forecasts, the bank’s next rate move likely will be a hike, but not until the second half of 2016, which seems a very long way off.”

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