Us Federal Reserve Raises Cash Rate Above Australia’s for the First Time in 18 Years

March 23, 2018

AUSTRALIA has been left behind by the US in a key economic driver for the first time in nearly 20 years.

THE US Federal Reserve has raised its official cash rate above that of Australia for the first time in 18 years.

The 25 basis point jump, signalling a vote of confidence in the US economy after a decade of near-zero rates following the GFC, brings the Fed’s short-term rate to a range of 1.5 per cent to 1.75 per cent.

The Reserve Bank of Australia this month kept the official cash rate on hold at its record low of 1.5 per cent for the 19th month in a row. The RBA last cut the cash rate in August 2016, following an earlier cut to 1.75 per cent in May. There has not been an official cash rate increase since November 2010.

In contrast, Wednesday’s US Fed move marked the sixth increase since it began normalising rates in December 2015, and new chair Jerome Powell said he expected two more rate hikes this year and three next year.

Economists say conditions in the two countries are now different enough that the gap will persist for some time. “For Australia, the Fed’s latest hike really just reflects that US growth is strong and this is good for Australia,” AMP Capital chief economist Dr Shane Oliver said in a note on Thursday.

“The RBA is a long way from following the Fed higher in terms of interest rates because there is still a lot of spare capacity in the Australian labour market compared to the US. We don’t expect the RBA to start raising rates until early next year.”

Anthony Kirkham, head of investments at Western Asset Australia, agreed rates were unlikely to rise until early 2019 and even then the pace of tightening would be slow. “Australian households currently have a lot of mortgage debt,” Mr Kirkham said in a blog post.

“High debt levels make the housing market more vulnerable to any monetary policy tightening and increase the risk of sharp slowdown in consumer demand. The RBA has stated many times that it is concerned about financial stability and this is keeping policy on hold despite US tightening.”


The key impact is expected to be on the exchange rate, with the differential set to push the US dollar higher relative to its Australian counterpart — the last time Australian rates were below US rates in 2001, the Aussie dollar fell to 48 US cents.

“In due course I think one of the primary concerns is the impact on the currency,” said ABC Bullion chief economist Jordan Eliseo.

“The RBA and many commentators would argue a lower currency is exactly what Australia needs. Be that as it may, as the Australian dollar falls it obviously decreases the international value of all the assets we hold. It also means for an Australian investor, having some of your portfolio denominated in an overseas currency makes sense.”

Dr Oliver said while he expected the dollar to fall, strong commodity prices should prevent a slide as dramatic as 2001.

“We believe the interest rate differential is less important as a driver of the Australian dollar, partly because commodity prices are quite strong,” Mr Kirkham said.

“As a capital importer, Australia still needs willing investors to provide funding, but with the global economy strong and possibly getting stronger, investors should be more comfortable with Australian yields below US yields since national income is underpinned by commodity demand.”


It comes after former Australian treasurer Peter Costello warned of a “painful” outlook for housing if interest rates rise, adding he was “amazed” to see politicians wringing their hands about Australia’s record high household debt — about 200 per cent of incomes.

“Of course they are [indebted]. Because we made money so cheap,” Mr Costello was reported in The Australian as telling the Urban Development Institute of Australia conference.

“And we made money cheap because we wanted them to borrow, that was the whole idea. We wanted them to borrow so they’d get the economy moving. The problem is now that you’ve borrowed so much, how do you normalise?

“If money is more expensive, asset prices must fall. Not all prices in every situation but overall they must fall. It’s going to be slow and it could be painful and the question is will it be a hard landing or a soft landing but it’s going to be a landing.”

Mr Eliseo, who today released a report calling time on the Australian housing boom, said data for the first three months of the year showed the property market had peaked, but the question was how far it would fall this cycle.

“A lot of people think the fall will be benign, 5 or maybe 10 per cent,” he said. “The worst-case scenario is that prices could really fall quite significantly, although I don’t think an Australian housing correction would be as bad as some of the international equivalents.”

A fall of greater than 10 per cent would have major knock-on effects, he warned. “The value of housing stock is nearly $7 trillion, three times our GDP,” he said.

“Given that financial sector stocks make up the better part of 40 per cent of the ASX, any housing correction over 5-10 per cent would almost certainly lead to a recession and also put a lot of pressure on the RBA to actually cut rates, completely forget about hiking them.”


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