September 05, 2011
THE Australian economy is expected to show signs of life this week, with growth forecast to bounce back, but the Reserve Bank is expected to remain on the sidelines because of the fragile state of the domestic economy.
The futures market indicates a 22 per cent chance of a cut in rates when the board holds its monthly policy meeting tomorrow in Perth.
However, economists believe the central bank is now in a "neutral" mode, monitoring economic development before shifting interest rates.
The bank contemplated raising the official cash rate last month but held off because of recent extreme volatility in global financial markets, reflecting concerns about the US and European debt crises.
HSBC chief economist Paul Bloxham said the RBA needed to manage the two-speed Australian economy but stay conscious of the troubled global economic context.
"The RBA are now in wait-and-see mode," Mr Bloxham said.
"The downside risk to growth in the developed countries would be weighing on their minds, but this needs to be balanced against the upside risk to inflation from the ferocious demand for Australia's commodities, the ongoing mining boom and the weak supply side of Australia's economy."
Mr Bloxham said there was insufficient evidence that the Australian economy had weakened enough to prompt the RBA to cut rates.
The futures market has priced in 115 basis points of cash rate reductions in the next year, but has started to pare back expectations of more aggressive cutting.
During last month's volatility, it was tipped that up to 180 basis points could be slashed from rates.
"To cut rates, the RBA would need to believe that recent events are enough to cut their forecasts, so that underlying CPI heads to the lower part of the target band," Mr Bloxham said.
"That's a big move."
If the RBA signals its concerns over the economic outlook through a rate cut, that could paradoxically undermine the sharemarket, as investors focus on the reasons behind the decision rather than the stimulus it provides.
The equity market is already set for a tough week after the release of figures showing US unemployment remained at 9.1 per cent last month prompted a sharp selloff on Wall Street on Friday.
The Dow Jones Industrial Average fell 2.2 per cent to 11,240.26 points.
But with the US market closed today for a public holiday, Australian investors are likely to focus on the domestic economy once the initial flurry of selling is over this morning.
The futures market predicts the S&P/ASX 200 index will open down 63 points.
The national accounts on Wednesday are expected to show the Australan economy grew by 0.9 per cent in the second quarter, a sharp improvement on the 1.2 per cent decline in the first quarter when the Queensland floods interrupted mineral exports.
The annualised economic growth rate is forecast to drop from 1 per cent to 0.5 per cent because the strong 1.4 per cent increase in the second quarter last year will no longer be included.
Citi chief economist Paul Brennan said the GDP results would show the divergence between the strong and weak sectors of the Australian conomy.
"We continue to expect the pace of economic activity in Australia to pick up," he said.
"The strong parts of the economy remain strong, as evidenced by the continuing growth in mining investment and the strength of capital expenditure plans.
"The weak parts of the two-speed economy remain under pressure from deleveraging and the strong Australian dollar."
The unemployment rate for August, published on Thursday, is expected to show a 5000-job decrease, which will keep the jobless rate at 5.1 per cent.
Bank of America-Merrill Lynch foreign exchange strategist Ardash Sinha said the rising Australian dollar was tightening financial conditions.
The currency ended last week on a positive note.
Article by Scott Murdoch From:The Australian