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All signs point to a 25 basis-point rate cut by RBA

By Henry Thornton - posted Tuesday, 4 December 2012


Australia's economy is weaker than earlier thought and the Reserve Bank should cut the cash rate by another 25 basis points at the end of its board meeting today.

The major piece of new economic data concerns investment intentions, which have weakened both in the mining and non-mining sectors, and the labour market remains much weaker than suggested by an official rate of unemployment at 5.4 per cent.

The global outlook is little changed, but there is cold comfort in that conclusion.

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The US economy seems to be recovering slowly, with stronger housing activity the latest positive news. But the US has a chronic problem of excessive national debt, and political gridlock about the solution. The default policies, if not amended, will cut spending and raise taxes and create a severe setback to economic recovery.

The eurozone economies are mired in even more intractable problems. Again excessive debt is the principal problem, but the deeper issue is the great contrast in competitiveness between the less indebted northern eurozone economies and the more indebted southern eurozone economies.

Unemployment rates are already at depression levels in the southern nations and there is no coherent plan to reduce their excessive debts.

Growth of China, India and other dynamic developing nations seems to be stabilising, although at slower rates of growth. Slower growth is a consequence of slower US growth and virtually zero eurozone growth, although China in particular is attempting, sensibly, a transition to greater reliance on domestic growth and less reliance on export growth.

The commodity prices Australia relies on for its prosperity experienced alarming reductions earlier this year but have recovered to levels that would justify current levels of mining investment and the continued stimulus expected from the third phase of the boom -- expanded quantities of commodity exports at prices highly satisfactory by historical standards.

It is worth noting a fundamental change in global monetary policy. In more or less uniform response of the major developed nations to the global crisis, central banks have adopted various forms of "quantitative easing". This builds on near-zero cash rates in these nations, and has resulted in a major expansion of the balance sheets of the central banks.

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We are grateful to the newly appointed deputy governor of the Reserve Bank, Philip Lowe, for addressing some of the implications of this highly innovative development.

As Lowe put it in a speech in late October: "From one perspective, this setting of monetary policy is hardly surprising. The sluggish growth in many of the advanced economies means that little, or no, progress is being made in reducing high rates of unemployment. At the same time, core inflation is subdued . . .

"But from another perspective, what we are seeing is highly unusual. Since mid-2008, four of the world's major central banks -- the Federal Reserve, the ECB, the Bank of Japan and the Bank of England -- have all expanded their balance sheets very significantly, and further increases have been announced in a couple of cases.

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This article was first published in The Australian on December 4, 2012.



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About the Author

Henry Thornton (1760-1815) was a banker, M.P., Philanthropist, and a leading figure in the influential group of Evangelicals that was known as the Clapham set. His column is provided by the writers at www.henrythornton.com.

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