Economists tip interest rate cut after soft inflation figures

While economists are still uncertain whether the Reserve Bank will ultimately cut interest rates on Melbourne Cup Day next Tuesday, a consensus is growing that the board will ease the current cash rate by 25 basis points.

Such a move – unthinkable only a few months ago – would be the first time the RBA would have adjusted the cash rate since Melbourne Cup Day in 2010, when it raised rates by 25 basis points.

AMP economist Shane Oliver says yesterday’s inflation data gives the RBA clear scope to reduce the cash rate without fearing any negative economic backlash.

“We have been looking for a rate cut in either November or October. We think the odds are that it will be next week. The inflation figures were really the last piece of the puzzle,” he says.

“You have the global backdrop deteriorating dramatically since August, and the domestic economy is being affected as well.”

Oliver says yesterday’s inflation figures reveal the current cash rates “just aren’t justified”.

“They need to be lower. It’s not a certainty, but we’re reasonably confident they’ll cut by 25 basis points. I would attach a 60% possibility rate to that.”

Economists from the major banks are tipping a rate cut as well. ANZ’s Katie Dean wrote yesterday that the underlying inflation rate has now changed “significantly” from just a few months ago, reflecting a “weaker than expected economy”.

“Such a markedly lower inflation environment gives the RBA the green light to cut next Tuesday,” she wrote, noting that the likelihood of short-term downward revision to inflation, along with a soft employment outlook, means the RBA even has scope to reduce rates by more than 25 basis points in the next few months.

Westpac’s Bill Evans wrote the bank’s earlier forecast that rates would be cut before the end of the year may be proven correct, and notes that the RBA has moved rates every November for the past five years.

However, he also says this won’t be a one off cut, confirming the bank’s view that 100 basis points will be slashed with a second cut in February, arguing that “the second cut will come… after the bank assesses the impact of the first cut on confidence and activity”.

CommSec economist Craig James says the conditions are set for a cut – wealth has deteriorated, along with debt, giving the RBA plenty of scope to reduce the cash rate.

However, James also says any decision will depend on how European political leaders act this weekend and determine whether there is a solution to the sovereign debt crisis.

“Clearly it could go either way. If the seemingly impossible does occur – a lasting solution to the crisis and major celebrations on equities markets – then the RBA may elect to stay on the interest rate sidelines for another month or so.”