Saturday, January 19, 2008

Why the Reserve Bank Feels Cautious


RESERVE Bank governor Glenn Stevens has played down the effects of massive falls on the Australian and international stock markets.

The local market has endured one of its worst performances in its history this week, notching up its biggest losing streak in more than 17 years.

Asked at a business lunch in London overnight what his message would be to Australian mum and dad investors who had been hit by the market falls, Mr Stevens said: "Share markets go up and down.

"Mums and dads shouldn't be trying to play them on a short-term basis."

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No need to panic, says RBA
from news.com.au
RESERVE Bank governor Glenn Stevens has played down the effects of massive falls on the Australian and international stock markets.

The local market has endured one of its worst performances in its history this week, notching up its biggest losing streak in more than 17 years.

Asked at a business lunch in London overnight what his message would be to Australian mum and dad investors who had been hit by the market falls, Mr Stevens said: "Share markets go up and down.

"Mums and dads shouldn't be trying to play them on a short-term basis."

Inflation

Mr Stevens, who was delivering his first public speech offshore as governor, said inflation was set to remain uncomfortably high in Australia as global financial markets enter an "interesting" year that is likely to test the skill of the world's central banks.

He said RBA had taken steps to limit the direct financial effects of the recent turmoil in global credit markets on Australia.

"As a central bank, while we have been careful to ensure ample liquidity in the money market at a time of international uncertainty and re-pricing of risk, we have remained concerned about the outlook for inflation, which is likely to be uncomfortably high in the near term," he said.

His comments signal that the RBA is still focussed on the inflation question in Australia, ahead of the release of local December quarter consumer price index figures on Wednesday, January 23.

The report is expected to show annual inflation remains above the central bank's two to three per cent comfort zone, and could pave the way for an official interest rate increase in February.

However, economists have argued that falling equities markets, general financial market volatility and concerns that the US economy may fall into recession could stay the RBA's hand.

The RBA board next meets on February 5 and its rates decision will known later that day.

"World growth will slow"

Mr Stevens said world economic growth was set to slow noticeably in 2008, as the US deals with the fallout from a credit crunch sparked by defaults in the US sub-prime mortgage market.

The US had to work off an excess of housing market stock, recognise bad loans and repair corporate balance sheets, he said.

"So the US economy is in a period of adjustment, as is the banking core of the international financial system," he said.

"Even with the renowned flexibility of both, and good policies, this will take a bit of time.

"Just how long remains uncertain."

While Australia was weathering the turmoil in financial markets since August 2007, local investors and borrowers had not escaped completely unscathed.

"Firms whose business models relied on short term debt funding have been tested - a couple have, for practical purposes, left the scene," he noted.

"Yet these events have been absorbed thus far with little disruption in the broader economy.

"The availability of credit to sound borrowers has not been impaired."

Mr Stevens said the direct financial effects of the global turmoil on Australia were likely to be confined mainly to the impact on borrowing costs, which have risen in recent months.

"Taking into account the strength of demand, this increase in borrowing costs does not seem likely to pose a particular problem for the economy as a whole," he said.

"There is no evidence, moreover, of a 'credit crunch' in the domestic financial sector."

Labour costs

Mr Stevens added that labour costs in Australia and elsewhere have been well behaved.

"By and large, labour costs have been quite contained in the present episode, even in cases of tight labour markets like Australia's," he said.

Market

The local bourse lost about $83 billion over the course of the week, and about $136 billion over the past two weeks, as measured by the all ordinaries index.

It has been hurt by mainly offshore factors, such as concerns about the US economy and hefty earnings losses reported by major US investment banks.

The benchmark S&P/ASX 200 index yesterday lost 0.84 per cent, or 48.8 points, to 5,747.3 today, while the broader all ordinaries index fell 0.98 per cent, or 57.6 points, to 5799.4.

The fall in the all ordinaries completed 10 successive declines in the index for the first time since September 1990.

If the index continues to fall next week, marking 11 or more declines in a row, it will be the first time since January 1982.

With AAP