Financial thoughts

Australia's central bank cut its benchmark interest rate for the first time in seven years amid signs the nation's $1 trillion economy is slowing.

Governor Glenn Stevens and his board reduced the overnight cash rate target by a quarter point to 7 percent in Sydney today, as forecast by 22 of 23 economists surveyed by Bloomberg News.

The biggest slump in retail sales in six years, tumbling business confidence and slower jobs growth means “there was now scope for monetary policy to become less restrictive,'' Stevens said today. Gross domestic product expanded by the least in two years in the second quarter, economists surveyed ahead of a Sept. 3 report forecast.

“The economy is slowing, and probably faster than the Reserve Bank expected,'' said Su-Lin Ong, senior economist at RBC Capital Markets Ltd. in Sydney.

“A further easing will be very conditional on an ongoing moderation in demand.''

The Australian dollar rose to 85.09 U.S. cents at 2:35 p.m. in Sydney from 84.87 cents just before the decision was announced. The two-year government bond yield was little changed at 5.68 percent.

The benchmark S&P/ASX 200 Index rose 0.6 percent to 5,149.4 on speculation lower rates will buoy lending at the nation's banks. National Australia Bank Ltd., the No. 1 lender by assets, added 1.6 percent to A$25.04. Commonwealth Bank of Australia, the biggest home lender, rose 1.4 percent to A$43.18.

Inflation Target

“Weighing up the available domestic and international information, the board judged that there was now scope for monetary policy to become less restrictive,'' Stevens said in a statement on the bank's Web site.

Policy makers will “continue to assess prospects for demand and inflation over the period ahead, and set monetary policy as needed to bring inflation back to the 2 percent to 3 percent target over time,'' Stevens added.

Australia's four largest banks, Commonwealth Bank, Westpac Banking Corp., Australia & New Zealand Banking Group and National Australia, said they will pass all of today's quarter- point cut to mortgage holders.

Policy makers last raised borrowing costs in March, for a second straight month, to curb consumer prices that jumped 4.5 percent in the second quarter.

The bank has added 300 basis points to the benchmark rate since December 2001, when it was 4.25 percent.

Economic Growth

Since the bank's last meeting on Aug. 5, reports have shown new home sales fell to a two-year low and lending to consumers and businesses rose at the slowest annual pace since 2002 payday loans. Companies including Qantas Airways Ltd., Ford Motor Co. and Starbucks Corp. have announced job cuts.

The government will publish a report tomorrow at 11:30 a.m. in Sydney showing second-quarter gross domestic product rose 0.4 percent from the previous three months, when it expanded 0.6 percent, according to the median estimate of 23 economists surveyed by Bloomberg.

Today's cut is welcome and will provide “relief'' to borrowers, Prime Minister Kevin Rudd told parliament after the decision.

The reduction is “welcome but not a day for celebration,'' with “more tough times ahead'' for the economy, he said.

Stevens, along with his counterparts in Europe, Asia and the U.S., faces the challenge of balancing slowing household spending, which accounts for about 60 percent of Australia's economy, with the threat that inflation will accelerate amid rising energy costs and a shortage of skilled labor.

Exports to China

“The scarcity of labor in Australia is now acute'' and it will “have a negative impact on BHP Billiton Ltd.,'' Don Argus, chairman of the world's biggest mining company, said at a business forum in Canberra yesterday.

Surging demand from China will increase Australia's export income by 20 percent this year, the central bank estimates, offsetting slower domestic growth and boosting profits at miners including BHP Billiton. A report yesterday showed company profits surged in the second quarter by the most in more than seven years.

“The Reserve Bank will be concerned by the extent to which profit growth and business investment intentions have grown amidst a seemingly deteriorating economic environment,'' Adam Carr, a senior economist at ICAP Australia Ltd. in Sydney, said ahead of today's announcement. “It rules out three rate cuts this year.''

Housing Affordability

The nation's five largest lenders, including Commonwealth Bank, have added an average 105 basis points to mortgage rates in 2008 as the global credit squeeze drove up funding costs. The central bank has raised its benchmark by a total of 50 basis points in that time.

Today's cut will reduce repayment on an average A$250,000 ($213,000) home loan by A$42 a month.

A report yesterday showed households spent 39.8 percent of their incomes on mortgage payments in the June quarter, the most in the 22 years the institute has measured affordability.

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