Oct. 27 (Bloomberg) -- Australia’s weakest underlying inflation in 14 years will allow Reserve Bank Governor Glenn Stevens to cut the developed world’s highest borrowing costs next week, money markets show.
The yield on November cash-rate futures was 4.535 percent at 1:11 p.m. in Sydney. That shows an 86 percent chance Stevens will extend to six years his run of policy changes on Melbourne Cup day, when Australia’s richest horse race is run, and lower the target on Nov. 1 from 4.75 percent. Core inflation slowed in the three months to Sept. 30 to 0.3 percent, the least since the third quarter of 1997, a government report yesterday showed.
An RBA rate reduction would be the bank’s first in more than 2 1/2 years and see Stevens join Group of 20 counterparts from Jakarta to Brasilia to Ankara in easing monetary policy as Europe’s sovereign-debt crisis threatens commodity prices and global growth. Employment in Australia has weakened this year as the currency’s climb to a record hurt manufacturing and tourism and consumers salted away cash rather than spent it.
“The RBA stands out in terms of its central bank peers with its mildly restrictive policy stance, one that we have argued has become increasingly inappropriate,” said Su-Lin Ong, head of Australian economic and fixed-income strategy at RBC Capital Markets in Sydney. “The better inflation picture gives it scope to take out some insurance easing given the global risks.”
Money markets indicate Stevens will be more aggressive in acting to bolster the economy. He will follow next week’s expected cut with consecutive reductions at the next three meetings in December, February and March, futures show. The implied yield on the March contract dropped to
Stevens cut the cash rate from 7.25 percent to 3 percent between September 2008 and April 2009 to counter a global credit freeze after the collapse of Lehman Brothers Holdings Inc.
The gap between yields on Australian five-year inflation- linked debt and benchmark notes of similar maturity was 2.44 percentage points, approaching the lowest level since September 2010. The spread indicates investor expectations for consumer- price gains over the lifetime of the debt.
Australian government bonds fell today as as European officials agreed to expand a bailout program aimed at resolving the region’s debt crisis, curbing demand for the relative safety of government securities. The benchmark 10-year yield climbed nine basis points to 4.46 percent.
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The nation’s sovereign debt generated 9 percent returns over the past 12 months, the most behind the U.K. and New Zealand across 26 markets tracked worldwide by Bloomberg/EFFAS indexes, as concerns that Europe and the U.S. may tip back into recession spurred demand for the safest assets.
The Markit iTraxx Australia index of credit-default swaps that gauges perceptions of corporate bond risk rose five basis points to 183.5 as of 5:18 p.m. in Sydney, according to Australian & New Zealand Banking Group Ltd.
The nation’s resource investment boom to supply emerging economies including China and India with coal, iron ore and natural gas kept Australia’s so-called breakeven rate at the highest among eight developed markets tracked by Bloomberg.
The RBA is likely to “significantly” reduce its forecast for underlying inflation from the current 3 percent to 3.25 percent through to the end of 2013, Stephen Halmarick, Sydney- based head of investment markets research at Colonial First State Global Asset Management, which oversees about $150 billion, said in a research report. The central bank will release its growth and inflation estimates in its quarterly statement on Nov. 4.
A reduction would be “the sixth year in a row that monetary policy has been altered on Melbourne Cup day,” Halmarick said. “This easing would be consistent with the RBA moving back towards a ‘neutral’ position on monetary policy, rather than the currently ‘mildly restrictive’ setting.”
Billed as “the race that stops a nation,” the A$6.2 million Melbourne Cup is held on the first Tuesday every November, coinciding with RBA monthly rate meetings in recent years.
Twelve of 20 economists surveyed by Bloomberg News after the inflation data release predicted Stevens will lower borrowing costs next week; the other eight expect him to keep rates unchanged. In a survey on Oct. 21, only 6 of 25 forecast a reduction in rates.
Australia’s dollar, the world’s fifth-most traded currency, rose 0.8 percent to $1.0479 in Sydney.
Yesterday’s report showed the average of two core measures of consumer prices closely watched by the RBA gained 0.3 percent in the three months through September from the previous quarter, half the pace predicted by economists. Core inflation, as measured by the central bank’s so-called trimmed mean gauge, rose 2.3 percent from a year earlier, and the weighted-median gauge of inflation advanced 2.6 percent.
The central bank aims to keep inflation in a 2 percent to 3 percent range on average.
Even so, RBA Deputy Governor Ric Battellino this week signaled no urgency to lower rates as policy makers weigh weak growth abroad against a domestic mining boom.
In a speech in Sydney on Oct. 25, Battellino said there had already been some easing in Australia’s financial conditions. Market interest rates have fallen and the nation’s currency has undergone a “modest” decline, leading to “reduced pressure on some sectors of the economy,” he said.
The nation’s currency depreciated almost 10 percent last quarter as employment growth slowed and global risks increased. It reached $1.1081 on July 27, the highest level since it was freely floated in 1983.
Battellino said that in Australia, as in the U.S., the flow of recent monthly economic data has been “a little better than might have been expected given the volatile financial environment.” He cited a pickup in retail sales and home loan approvals, measures of business conditions remaining around average levels and a stronger jobs report.
The extra yield investors demand to hold Australian corporate bonds instead of government debt reached 251 basis points yesterday, matching the most since August 2009, Bank of America Merrill Lynch data show.
Australia’s unemployment rate declined last month for the first time since March, a government report showed Oct. 13, as the number of people employed rose by 20,400. The jobless rate fell to 5.2 percent from 5.3 percent.
Fortescue Metals Group Ltd., Australia’s third-largest iron-ore producer, on Oct. 25 sold $1.5 billion of eight-year notes to help expand operations. The sale, the largest junk bond offering in almost a year by an Australian company, was priced to yield 648 basis points more than similar-maturity Treasuries, Bloomberg data show.
Stephen Walters, JPMorgan Chase & Co.’s chief economist in Australia, said the inflation report isn’t enough to prompt the RBA to lower borrowing costs.
“We still believe the low-ball CPI prints need to be accompanied by bad news offshore before the RBA will cut,” Walters said. This week “we learned that officials have not capitulated on the mammoth mining investment boom and continue to forecast robust growth in Australia’s major trading partners. This is very unlikely to change before next Tuesday.”
--With assistance from Daniel Petrie and Sarah McDonald in Sydney. Editors: Garfield Reynolds, Brendan Murray
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