To no one’s surprise, the Reserve Bank raised the cash-rate to seven percent yesterday It was the 11th rate rise since 2002. The yield spread between short-term Aussie rates and U.S. rates is now a whopping 400 basis points.
So what now?
“A significant slowing in demand from its recent pace is likely to be necessary to reduce inflation over time,” warns RBA Governor Glenn Stevens. That sounds like a warning doesn’t it? How do you reduce demand? You keep hiking rates up, like twisting an arm, until you hear something crack.
So far, there’s been some groaning from the Aussie battler, but no cracks. Retail sales were up by 1.4% in the fourth quarter to $57 billion, according to the Australian Bureau of Statistics. If Aussie shoppers are feeling any pain, they are shopping right through it. What well trained consumers we’ve all become.
On the other hand, building approvals for houses and apartments fell 16% from November to December. That suggests that the interest rate rises are having the desired effect. Builders sense that demand will taper off as mortgage rates approach double digits.
You’d be surprised how long people can continue to live above their means. For years we’ve watched American consumers and predicted, always prematurely, their inability to sustain such a monstrous pace in needless consumption. But as long as consumers can pay the minimum balance on a credit card, or get can credit somewhere else, don’t count them out.
In other words, we think the inflation in commodities prices will translate into higher prices for imported finished goods, despite the stronger Aussie dollar. What’s more, wage pressures are growing. According to a Commonwealth Bank survey released today, wages grew by 2.1% in the fourth quarter of last year.
Inflation is like the small fire a pyromaniac child starts in a back yard full of weeds. It begins as a pleasant little fiery dance. It ends either when all the fuel is consumed, or a fireman comes and puts it out. Better top up the fire truck with water, Mr. Stevens.
Markets and Money