The Reserve Bank's open-ended warning on interest rates breathed life into the Australian dollar, boosting it past the 85 USc mark as the punters and other speculators climbed back in the saddle after last week's nasty fall.
The dollar hit 85.05 USc, up from the six-week low of 84 USc on Friday in the big sell-off of anything with a taste of risk. It fell in overseas trading to around 84.22 USc.
And while stock markets in the Asia rallied modestly yesterday, our market rose by around one per cent (62 points on the All Ords, 75 points on the ASX 200).
That was no where near the 197 point fall on Friday and the early gains (the indexes were 90 points ahead at one stage) were definitely tempered by the RBA's statement which appeared at 11.30 am.
It was more hawkish that expected. The central bank lifted its 2007 core inflation forecast to 3% – the top of its target band, and predicted a 3% rate to the June quarter of next year.
But it was finalised last Thursday, on the eve of the central bank intervention around the world.
But that aside, this statement will drive economic policy in this country for at least the next year, unless there's an eruption of system-threatening problems that force a change and a more accommodating stance.
Any investor who wants to know what the policy parameters will be in, regardless of the Federal election result, should read what the RBA said in its summary yesterday…
………………….
Economic data in Australia over recent months have signalled a pick-up in the pace of growth in demand and activity.
Capacity utilisation is high after a lengthy period of expansion, and business and consumer confidence are both strong. These conditions have been accompanied recently by higher-than-expected underlying inflation.
Growth of the Australian economy has for some time been assisted by favourable international conditions. Current expectations of official and private-sector observers are that the world economy will continue to grow at an above-average pace in both 2007 and 2008.
These expectations have generally been revised upwards over recent months, with slower growth in the United States expected to be more than offset by stronger growth in China and the other major economies.
Notwithstanding the strong overall performance of the world economy, international financial markets have experienced significant volatility in recent weeks, primarily stemming from the sub-prime mortgage market in the United States.
Delinquency rates in that market have been rising over the past year reflecting a marked decline in lending standards, particularly in 2006, and the expiration of discounted interest rates applying for the first two years of many of these loans.
The mortgage-backed securities and the associated collateralised debt obligations based on these loans have suffered sharp falls in prices, exacerbated by a lack of liquidity in these markets. This in turn has generated problems for the holders of these products, particularly those who had used leverage.
There has been some flow-on through credit markets, where spreads have widened, particularly for low-rated paper. However, at this stage, the extent of the widening has only seen spreads rise back to more reasonable levels after a period when risk appears to have been under-priced.
Yields on highly-rated government paper have declined, reversing much of the rise seen in May and June. Equity prices have also fallen, with the shares of financial institutions suffering the largest declines. Both bond and equity markets have experienced a marked increase in volatility following a number of years when volatility had been low.
The extent to which these financial events might affect global growth remains uncertain.
The main risk would appear to stem from the possibility of an excessive withdrawal of the provision of credit, which could constrain growth in spending and output, particularly in the United States. At this stage, however, the evidence continues to point to strong growth in the global economy overall.
While there has been a slowing in the United States, this has so far been largely confined to the housing sector, with the wider economy still growing at a reasonable pace. The US national accounts showed a pick-up in GDP growth in the June quarter, and employment has continued to expand at a pace broadly in line with the growth of the labour force. Indicators of performance in the manufacturing sector have picked up over recent months.
Strong conditions are generally prevailing in other parts of the world.
China has reported a further step-up in its growth rate, to a pace of around 12 per cent. In Japan, although recent indicators have been quite volatile, a reasonable pace of expansion seems to have continued, with employment and business sentiment both remaining firm in the June quarter.
The smaller east Asian economies for which June quarter national accounts are available have reported strong growth rates. There are also indications that industrial production and exports across the region have firmed in recent months in response to stronger demand from China and elsewhere. In the euro area, recent data suggest that growth has continued at a firm pace through the first half of the year, though conditions are not as strong as they were last year.
Consistent with the strength of the world economy, global commodity prices have remained high in recent months, and in some cases have strengthened further. Analysts' forecasts of contract prices for Australia's bulk commodity exports have generally been revised upward, reflecting further increases in expected demand from China.
Oil prices have picked up further. The cumulative increase in world commodity prices over recent years remains an important source of stimulus to Australia's national income
