THE MIKIVERSE

Cup day tip - big rate rise

Tim Colebatch
October 21, 2009 - 12:00AM

COMMENTS by the Reserve Bank have inflamed expectations of more interest rate rises, with financial bookies now rating the Reserve odds-on to lift interest rates by half a percentage point on Melbourne Cup day.

Markets have priced in a 67 per cent chance that the Reserve's cash rate will go from 3.25 to 3.75 per cent - which would be the biggest rise in almost a decade - when it meets in two weeks.

The rates speculation coincided with new figures showing Melbourne house prices shot up an estimated 6.5 per cent in the September quarter, with the median price surging to a new high of $524,500.

Minutes of the Reserve board's most recent meeting, released yesterday, show board members were concerned about the risk of excessive inflation and imbalances in the economy if rates had been held at record lows. The meeting decided to lift the cash rate from 3.0 to 3.25 per cent.

The minutes did not specify which imbalances the board was concerned about, but house prices are now at record levels, whereas the stock market is still almost 30 per cent below its peak.

The release of the Reserve's bullish views boosted markets yesterday, with the dollar immediately shooting up 0.4 US cents to a new 14-month high above 93 US cents. On the stockmarket, the S&P/ASX200 climbed 53 points to close at 4846.

Confidence also appears high out in the electorate. A poll by Essential Research showed that only 17 per cent of Australians now believed the worst was still ahead for the economy, and 68 per cent believed it was now starting to improve.

The poll also found Labor was now seen as the better economic manager than the Coalition, with 66 per cent rating the Government's handling of the economy as good or excellent. Only one in four blamed the Government's stimulus for this month's rate rise.

But the minutes of the Reserve board meeting reveal there was spirited debate over whether a rate rise was needed at all, or whether it was premature.

An un-named board member putting views strikingly similar to those of Treasury secretary Ken Henry argued that the global economy could still suffer another downturn, and the recent strength of the Australian economy could be largely due to the Government's stimulus rather than a self-sustaining recovery.

Dr Henry, who sits on the Reserve board, put exactly the same arguments three days later to the Senate committee hearing.

The minutes record the central bank forecasting that, assuming no setbacks, GDP growth ''could be close to trend through 2010''.

But Dr Henry told senators three days later that Treasury expects the economy ''will continue to grow below trend for the next year or so''.

He added cryptically: ''Some forecasters, as you are aware, expect stronger outcomes.''

Amid signs that Melbourne's population is now growing at or close to 100,000 a year, real estate monitor Residex has estimated that median house prices rose 8.8 per cent in the year to September 30 - a year that knocked trillions of dollars off other asset values - while median unit prices rose 10 per cent to just over $400,000.

The Residex figures show real estate markets across Australia's south-east were smoking in the September quarter. Apart from a jump of 6.5 per cent in Melbourne, house prices rose 5.7 per cent in Sydney, 3.6 per cent in the rest of NSW and between 2.2 and 2.5 per cent everywhere else.

With interest rates still at 50-year lows, the economic stimulus bringing forward demand from first home buyers, and city populations growing strongly while the housing stock stagnates, Reserve governor Glenn Stevens fears that prices could take off, making life harder for aspiring home buyers without benefiting the economy.

This story was found at: http://www.theage.com.au/business/cup-day-tip--big-rate-rise-20091020-h6xq.html