Why the RBA needs to be careful with its next rates move: Gottliebsen

When the Reserve Bank sits down today to deliberate on whether to increase official Australian interest rates, on the surface the decision will be relatively easy – leave them where they are.

And what happens in Canberra today will seem to have no relevance.

If only it were so. The Reserve Bank has much harder decisions ahead because of what’s happening abroad and at home – including the establishment of a minority federal government.

Yet on the surface all looks well because there are growth signals in Europe and US, while China may be experiencing a set-back, but is already showing signs of higher growth in subsequent years.

This China story is flowing into metal prices, the Australian dollar and our prosperity.

Global stock markets are responding to all these forces and rising. In Australia business confidence is also increasing and consumers are finding their feet again.

So as the market sees it, it’s only a matter of time before official Australian interest rates are increased again and again. But the RBA needs to watch out.

Australian interest rates have risen beyond the borrower pain barrier, so any further increase, whether it be next month or in three months’ time, will curb consumer demand -especially as consumers know their power bills are going to double over four years and will rise even further if we have a carbon tax.

If the Reserve Bank tries to compensate for the looming mining investment boom by bashing the heads of those who live in the major cities, the unstable political situation will become even more unstable.

And overseas we should all be aware that the various bond markets are giving totally different signals to the share markets. For example, in Europe, Greek bonds carry about a 9.4% spread over the German 10-year bond rate, and Ireland and Portugal are just below a 3.5% spread.

The simple fact is that Greece may be curbing expenditure, but will be required to suffer much more when it comes to forcing the bankers who have large Greek loans to take big losses. I am not sure the Greeks will stand for a second set of blows to help out German and French banks.

Portugal and Ireland are also in for tougher times as their bankers face up to losses in the loans they made. There may also be some nasties ahead for banks in the US before the US housing problems are finally sorted out.

All this means that it could become much harder for Australian banks to keep increasing their borrowing overseas to satisfy the credit appetite of Australian consumers. The RBA should beware of lumping further official interest rate increases on top of all this.

This article first appeared on Business Spectator.