Tuesday, 14 February 2012

A 10bp cut in March?

About 8 or 9 years ago, when I was Chief Markets Strategist at TD Securities in Sydney, I wrote a paper outlining the problems the RBA had in moving official interest rates in increments of 25 basis points.  It was one of those papers that generated a huge amount of discussion.  Understandably, most of the comments that came back were along the lines that any moves in official interest rates under 25 basis points would smack of false precision and unseemly calibration in a policy instrument - official interest rates - that usually needs to be moved quite a lot to have a material impact on the economy and inflation.

Westpac's Rory Robertson - one of the best interest rate watchers around - can obviously remember the paper because at yesterday's Bloomberg conference, he asked RBA Assistant Governor Guy Debelle whether the recent 6 to 10 basis point moves in mortgage rates would see the RBA cut 9 basis points to take away the restrictive influence of those rate rises.

Dr Debelle answered Mr Robertson's question in the same way as others in years gone by - such moves would present monetary policy in a way that overstates the precision of tiny moves in interest rates and the medium term inflation outlook.  That's true.

But I reckon the issue could be looked at again.

That's not because a 10 or 15 basis point move today would have a material impact on the economy - it wouldn't.  But it would allow the RBA to transparently snug official interest rates higher or lower and lessen the risk of being too late when a hunch about the performance of the economy turns out to be correct.  Policy would still get to the desired level of restriction or stimulation for the economy, but would do so in a much gentler way.  It's like looking both ways before you cross the road.  You still get to the other side (the objective) but you do it safely.

Cutting 10 basis points now - by definition - would not be an error, but it might, at the margin and if followed up by another 10 cut the month after, a pause after that and another 10 or 20 after that, move rates to a level that took account the sub-trend growth momentum in the economy right now and global risks which are still hanging around.  There's also less damage to undo it that turns out to be an error.

Looking back at the early part of 2011, it is possible that the a couple of 10 pointer hikes would have acted a little move firmly (maybe through confidence linkages) to dampen inflation with out the sledgehammer implementation of a bigger move which the RBA obviously didn't have the conviction to deliver.

I'm sure when Dr Debelle is listening to the Saints, The Thought Criminal's Speed, Madness and Flying Saucers and maybe Ian Dury and the Blockheads, he tweaks the base, treble and balance to make the sound perfect.  While it's the same song that's getting played, a little more base and less treble makes Sex and Drugs and Rock and Roll sound even better.

The odd 10 or 15 or 20 basis point move in official rates might be the base and treble of monetary policy making it a little better too.

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