Monetary policy update: RBA increase rates to 3,75% and BoJ left rate unchanged in an unscheduled meeting

The Reserve bank of Australia (RBA) increased rates by 0,25% for the third consecutive month to 3,75%. While the decision did not come as surprise (it was forecasted by 19 of 20 economists surveyed by Bloomberg News), it was far from sure and was criticized by the Australian Industry Group Chief Executive Heather Ridout, who said in a Bloomberg interview that policy makers “could have afforded to take a pause until the New Year when the business outlook is clearer.”

In the Governor Steven’s statement released at the end of the meeting were underlined the reasons behind the rate hike. As regards economic outlook, Steven said that “Prospects for ongoing expansion of private demand, including business investment, have been strengthening. There have been some early signs of an improvement in labor market conditions. The rate of unemployment is now likely to peak at a considerably lower level than earlier expected”. As regards inflation Steven said that “inflation should continue to moderate in the near term, though it will probably not fall as far as thought likely six months ago.” Steven also indicated that the rise in exchange rate during this year will have the effect to dampen both in inflation and growth (via external sector) in the medium term.

Finally, Steven said that “These material adjustments to the stance of monetary policy will, in the Board’s view, work to increase the sustainability of growth in economic activity and keep inflation consistent with the target over the years ahead.”

Having increased rates for a third straight month, the RBA is likely to wait some months before taking other tightening steps to see the effect of recent rate increase on the real economy. Notwithstanding the positive signals recently came from both the labor market (employees increased by 24,5k in October) and the residential sector (house prices rose by 10% this year) the inflation is likely to remain subdue in the medium term due to the low level of capacity utilization worldwide. The RBA will not have a meeting until February 2010, and rates may remain unchanged a bit longer, even though rates are expected to continue rising in 2010.

In Japan, the Bank of Japan decided today in an emergency meeting to provide short-term loans to commercial banks amid pressure from Prime Minister Yukio Hatoyama’s administration to address falling prices and the yen’s surge last month to a 14-year high of 84.83 per dollar. The size of the short term loans is JPY10trilion, while the Central Banks monthly purchases of Government Bond remain unchanged at JPY1,8trilion. Today’s decision is another desperate move by Japanese monetary policy makers to bring the economy out from deflation and to face a rising Yen. We continue to do not see any reason to invest in Japanese asset classes by now, particularly in Japanese Government bond, as we said in the post “Away from the Empire of rising sun”.