Australia cuts interest rates to record low of 1.75% to fight deflation

The Reserve Bank of Australia has cut its benchmark interest rate to a historic low of 1.75% ahead of budget

Australia’s central bank cut its benchmark interest rate to a record low of 1.75 per cent, just hours before the federal budget is handed down.

Tuesday’s historic interest rate reduction coincides with the federal government’s third budget, which is expected to be mildly stimulatory despite pressure to narrow the deficit.

The Australian dollar fell almost 2% to as low as US$0.7557 after the rate cut.

“Inflation has been quite low for some time and recent data were unexpectedly low,” Stevens said in a statement. “These results, together with ongoing very subdued growth in labor costs and very low cost pressures elsewhere in the world, point to a lower outlook for inflation than previously forecast.”

“The board judged that prospects for sustainable growth in the economy, with inflation returning to target over time, would be improved by easing monetary policy at this meeting,” said Reserve Bank of Australia Governor Glenn Stevens in a statement.

Within minutes of the central bank’s decision, National Australia Bank Ltd.—the country’s third-biggest lender by market value—said it would pass on the cut in full, reducing its variable home-loan rates by a quarter percentage point from May 16.

“We expect that rates will be cut to 1.5% at the August meeting, especially if the release of the [inflation] data for the second quarter the week before show that underlying inflation stayed low,” said Paul Dales, Chief Australia and New Zealand Economist at Capital Economics.

With Prime Minister Malcolm Turnbull expected to announce a July 2 election in the coming days, the RBA will face an added complication if it wants to cuts interest rates further in either June or July, though there is nothing that prevents the independent central bank from cutting interest rates during an election campaign.

Australia has been dealing with an economic slowdown, largely due to a drop off in mining investment, which had been a driver of the resource-rich economy.

The latest cut puts Australia into the club of developed economies with ever-falling interest rates and bond yields. Japan, the European Union and parts of Scandinavia now have zero or even negative nominal rates. New Zealand, too, looks likely to keeping cutting from an already-low 2.25 per cent official cash rate.

Courtesy: SMH, WSJ, Bloomberg, BBC

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