Is the Australian economy in need of a boost?

As the Federal Parliament of Australia returns for its first sitting of 2012 there is intense speculation that within just a couple of hours the Reserve Bank of Australia will reduce the official interest rate to 4%. While this move has been anticipated by many economists for some time there are a number of issues to take into account regarding both the local picture and the worldwide picture.

Is it time to support the Australian economy?

Historically many governments around the world have been caught offguard by their own economic declines and have often been accused of “closing the stable door after the horse has bolted”. As a consequence, it is encouraging to see that the Reserve Bank of Australia seems to be a little ahead of the curve and is looking towards potential turbulence in the short to medium term. But does the Australian economy really need support at this moment in time?

While economic growth in Australia is anticipated to come in at around 3% during 2012, well above the vast majority of economies in the developed world, there are concerns that the worldwide issues which cloud the global economy will impact upon consumer confidence and business confidence. Very often we see a fall in consumer confidence and business confidence ahead of an actual fall in the economy and there have been signs of concern, although nothing to worry about at this moment in time.

Will the banks help consumers and business?

One of the main issues the UK government in particular has experienced over the last few years, with regards to extremely low interest rates, is a reluctance from some banks to pass on this relatively cheap capital to consumers and businesses. Indeed a number of European banks have also been accused of feathering their own nest by using access to cheap capital to increase their own reserves and bolster their own assets.

Unless banks around the world, and this includes Australian banks, are willing to lend money to consumers and businesses then economies, both local and global, will grind to a standstill. The situation in Australia is nowhere near as dire as that in the UK, and indeed other areas of Europe, but it seems as though the Reserve Bank of Australia is looking ahead to try to counteract potential problems in the future. How they will force the banking industry to pass on these reductions in finance costs remains to be seen.

Why does the government keep attacking mortgage rates and profitability?

On one hand the Australian government is looking to encourage the banking industry to lend money to consumers and businesses and pass on finance savings due to lower interest rates. However, on the other hand many politicians have stepped forward to attack both mortgage rates and the profitability of Australia’s largest banks often accusing them of effectively maintaining relatively high interest rates to protect their own operations.

However, there is no way that the politicians in Australia, and indeed those around the world, can effectively have their cake and eat it by forcing banks to pass on finance savings to consumers and businesses while also attempting to squeeze their profitability. It comes down to a case of confidence in the Australian banking system, something which is certainly there at the moment, amid concerns ongoing attacks on the sector will backfire for consumers and businesses. At the end of the day many of these banks are owned by shareholders who are constantly pushing for improved efficiency savings and improved profitability.

So the more pressure the government places upon the banking sector the more likelihood that we will see job cuts and increased resistance towards passing on potential cost savings to consumers and businesses. Let’s not forget that this is the same banking industry which has financed the growth in the Australian economy for many years and indeed has had a very close relationship with the current government and past governments.

Competition in the mortgage industry

It was interesting to see that National Australia Bank today issued a statement to staff confirming it was committed to having the lowest standard home loan rate of the major banks. This is effectively one of the majors of the Australian banking industry breaking rank and is likely to see others follow in the short term. Whether this will continue into the medium term remains to be seen because historically we have seen a number of these public relations stunts to attract more customers before reverting to former rates.

There is no doubt that increased competition in the mortgage industry is good for not only the housing market but also the economy as a whole. The more competition the lower mortgage rates will fall which will take some of the pressure off household incomes and potentially more disposable income to support the overall economy. This all sounds very easy in principle but in practice it can be very different!

More bounce than Zebedee!

Despite the fact that on the surface the expected move from the Reserve Bank of Australia to reduce rates could be perceived as a negative and defensive movement, it is probably the sensible thing to do when you bear in mind the global economy. While there have been some concerns regarding short to medium-term business and consumer confidence in Australia there is still no doubt that the economy will outstrip the growth of the vast majority of developed economies around the world. In effect the Australian economy is still growing while many around them are falling into or flirting with a double dip recession.

Conclusion

The expected reduction in Australian interest rates should help to instil more confidence into the Australian economy and the Australian business sector. This is an area of the world which is dominated by natural resources which are still in demand as countries such as China and India continue their march to global dominance. It will be interesting to see how the Australian stock market reacts to the expected reduction in base rates and indeed whether Australian banks decide to pass on some of their finance cost savings to consumers and businesses.

Note :- After this article was published the Reserve Bank of Australia decided against cutting interest rates at this moment in time which would seem to indicate the economy is stronger than many thought.

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