July 25, 2019 / 4:58 AM / 2 months ago

Australia's central bank government signals lower rates for longer, bond yields dive

SYDNEY (Reuters) - Australia’s top central banker flagged low interest rates for an “extended period” on Thursday, driving bond yields to record lows, in a dovish signal that analysts say marks a major shift in the bank’s approach to guiding market expectations.

FILE PHOTO: Two women walk next to the Reserve Bank of Australia headquarters in central Sydney, Australia February 6, 2018. REUTERS/Daniel Munoz/File Photo

The Reserve Bank of Australia (RBA) has reduced interest rates twice since June to an all-time low 1% to revive growth and inflation. Financial markets are pricing in a real chance of a third cut before Christmas.

In a speech on Thursday, RBA Governor Philip Lowe said the RBA was prepared to provide additional policy stimulus if needed.

“On current projections, it will be some time before inflation is comfortably back within the target range,” Lowe said in Sydney. “Whether or not further monetary easing is needed, it is reasonable to expect an extended period of low interest rates.”

The RBA is traditionally seen as reluctant to commit to long-term guidance on policy so Lowe’s reference to an “extended period” was seen as a dovish concession to markets.

The more explicit-than-usual comments on rates were also seen as borrowing from the lexicon of other central banks, which use such language to guide market rates.

“This is a form of forward guidance, which the European and the Americans have used in various points of time,” AMP Chief Economist Shane Oliver.

“They are saying ‘we won’t even think about raising rates’, which gives you an impression interest rates would be low for a long time.”

In responding to questions after the speech, Lowe said he was not shifting toward forward guidance but was instead being “as transparent as possible”.

The promise of lower for longer rates sent yields on 10-year government bonds to a record low of 1.237%, compared with around 2.5% at the start of the year. The local dollar eased to a two-week trough of $0.6965.

“The important thing for markets was that Lowe was still retaining his easing bias,” said David Bassanese, chief economist at BetaShares and an Economic Advisor to the National Institute for Economic and Industry Research.

“After the July board meeting, there was some debate as to whether they have paused on easing...Based on the RBA’s forecasts they don’t need to cut again but the risk is that their forecasts end up being optimistic. They have tended to be more on the optimistic side than how things have been playing out.”

The RBA in May cut its growth forecast for the country’s A$1.9 trillion economy to under 3% this year from previous projection of “a little above” 3%.

Long-term expectations for inflation were also revised lower such that it is not seen returning to the mid-point of the RBA’s 2-3% target band through to mid-2021.

Inflation has already undershot that range for more than three years now but Lowe sounded confident on Thursday the target was still achievable.

Lowe was speaking on “Inflation Targeting and Economic Welfare” amid speculation in local media and academia over whether the target should be lowered.

Earlier on Thursday, the Australian Financial Review reported Treasurer Josh Frydenberg was reviewing the target and assessing the government’s monetary policy mandate for the central bank, which sets the guidelines for its actions on interest rates.

Lowe made it clear that the target was still appropriate and has “stood the test of time”. In responding to questions after his speech, he said he was confident the target would stay.

“We are not inflation nutters. Rather, we are seeking to deliver low and stable inflation in a way that maximises the welfare of our society,” Lowe said in the speech.

“The (RBA) Board is strongly committed to making sure we get there and continuing to deliver an average rate of inflation of between 2 and 3%,” he added.

The RBA will publish its latest quarterly forecast on Aug. 9. On the same day, Lowe makes a semi-annual appearance before the government’s economics committee where he’ll be grilled by lawmakers.

Reporting by Swati Pandey; Editing by Sam Holmes and Richard Borsuk

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