Australia’s official interest rates appear to be at, or very close to, the bottom of their cycle.
It would take a slump in economic activity well beyond the weakness currently forecast by the Reserve Bank of Australia (RBA) for the RBA to cut its cash rate again. The RBA expects the economy to grow 2-3% in 2014 after growth of around 2.5% in 2013.
Such growth rates are not spectacular. The best of the mining construction boom appears to be behind us and the manufacturing sector is still battling against a relatively strong Australian dollar (AUD). But at least they are positive.
The RBA has cut its cash rate from 4.75% in October 2011 to 2.50% at present. This decline in the cash rate has seen mortgage rates and other short term variable rates decline.
These lower interest rates are finally stimulating demand in the housing sector and have also helped lift the sharemarket as investors seek better returns.
Of interest to both businesses and investors are fixed-term interest rates. These are less influenced by the RBA and more influenced by global events. It is highly probable that these rates have also seen their low point. You may have noticed that fixed rates in the 3-5 year range have drifted a little higher in recent months.
It would be fair to say that the policies of the United States of America have kept longer term yields in the US, and around the world, lower than they might otherwise have been. The US is effectively ‘printing money’ with the aim of keeping interest rates low in order to stimulate its economy. But it is ‘printing’ so much money that it is affecting interest rates around the world.
The reason fixed term interest rates have drifted up is because the US, and the rest of the world, is coming to the realisation that at some stage, the US must reduce the pace at which it ‘prints’ money. As this happens, longer term interest rates will most likely begin to rise.
The big question is when this will occur. Many thought it would happen in September but as it turned out, the US Federal Reserve felt that the US economy still required further stimulus. The focus has now turned to March 2014.
Whatever the precise timing, it appears that both variable and fixed interest rates are at, or very close to, their lows for this cycle. We expect the RBA will think about lifting its record-low cash rate, late in 2014 or early in 2015. The slower the economic recovery in Australia, the slower the rise in the RBA’s cash rate.
The same applies fixed rates, except here the focus is on the US economic recovery. If the US economy can create 200,000 jobs or more per month in early 2014 then its seems probable that 3-5 year fixed rates will move higher.