Where to next for interest rates? More big cuts on the way

The Reserve Bank’s decision to slash interest rates yesterday shocked economists, who are now expecting more rate cuts over the next six months.

The Reserve Bank’s decision to slash interest rates yesterday shocked economists, who are now expecting more rate cuts over the next six months.

Experts from the top banks have taken yesterday’s cut as a sign the Reserve is bracing for a sustained slowdown, with Westpac chief economist Bill Evans saying there are clear signs that more cuts are on the way.

“The bank has now clearly enunciated its position that a sharp downturn in demand conditions will ensure that inflation declines,” he says.

“That suggests to us that we can expect at least another 100 basis points in total of RBA rate cuts within the next three to six months.”

ANZ senior economist Katie Dean agrees. “With the credit crisis pushing market funding costs up by around 50 to 100 basis points, then a neutral cash rate maybe somewhat lower – say 4.75% to 5%.

“This suggests that if the RBA wants to take policy back to neutral there will be more rate cuts to come.”

CommSec chief economist Craig James admits he was surprised at the bank’s decision. “Initially we thought that the Reserve Bank would hasten slowly with rate cuts, but clearly we were wrong.

“Now with the global economy again staring down the barrel of a major slump, the Reserve Bank felt that similar dramatic action in cutting rates was required,” James says. “We are still in the first stage and as such further rate reductions over the next six months are likely.”

But he also admits the global economic and financial situations are moving rapidly, and “thus nothing can be ruled out”.

JPMorgan chief economist Stephen Walters says the move was an assertive one, but “does not set a pattern for future decisions”.

“Inflation, previously RBA officials’ prime source of anxiety, has been taken off the back burner and hidden in a cupboard.

“Some of the traditionally more hawkish RBA officials, though, probably are gritting their teeth while cutting the cash rate so aggressively as inflation accelerates from already elevated levels,” he says.

“In the wake of yesterday’s shock move, our revised forecast calls for at least another 50 basis points of rate cuts by the end of this year.”

Walters also says JPMorgan excepts rates to be at 5% by mid-2009.