What if interest rate cuts fuel house prices but nothing else?

The RBA’s third reduction in the cash rate in five months was their attempt to increase employment and lift stubbornly low inflation.

The long-expected move follows clear of signals from Governor Philip Lowe that the Reserve Bank was prepared to push rates lower to increase employment and lift stubbornly low inflation back into the 2-3% target band.

But what if interest rates fuel house prices, but don’t have the desired effects on the economy?

To help us understand what’s going on I spoke with Dr. Andrew Wilson, Australia’s leading housing economist and chief economist of MyHousingMarket.com.au

It seems the RBA is aware that low interest rates may backfire.

The Reserve Bank said it was possible that low interest rates might be starting to have a "negative effect on the income and confidence of savers".

In the minutes for their October meeting RBA board members stated that “policy stimulus might be less effective than past experience suggests."

They also said that “the negative effect of low interest rates on the income and confidence of savers might be more significant".

On the other hand, they noted that the "housing market and other asset prices might be overly inflated by lower interest rates."

The IMF slashed their forecast for Australian growth

And this is happening at a time of a synchronised global economic slowdown.

Recently, the International Monetary Fund has slashed its global growth outlook to the lowest in a decade and downgraded its forecasts for Australia.

The IMF’s World Economic Outlook cut its growth forecast for the Australian economy from 2.1 per cent to 1.7 per cent — a level below the government’s and the Reserve Bank’s forecasts of about 2.25 per cent.

The IMF reduced its global growth forecast for 2019 was reduced from 3.2 per cent to 3 per cent, saying:

“At 3 per cent growth, there is no room for policy mistakes and an urgent need for policymakers to co-operatively de-escalate trade and geopolitical tensions.”

The IMF said global trade growth had dropped to 1 per cent — the slowest in seven years — as the US-China trade row and “increasing geopolitical tensions” took their toll on manufacturers and service sectors.

The good news is that while Germany, the United Kingdom, Singapore and other economies experienced negative economic growth in the June quarter, the Australian economy continues to grow faster than all G7 nations other than the USA.

The IMF also appeared to endorse the Reserve Bank’s series of three cuts in the official cash rate, saying:

“Major central banks have appropriately eased to reduce downside risks to growth and to prevent de-anchoring of inflation expectations”

The IMF said fiscal policy could “play a more active role”.

“Monetary policy cannot be the only game in town…It should be coupled with fiscal support where fiscal space is available, and policy is not already too expansionary.”

But treasurer Josh Frydenberg seems reluctant to put his hands in his pockets to stimulate the economy

He’s keen to keep his political promise of a budget surplus saying it would help the government “meet the challenges that lie ahead”.

What about employment growth?

The RBA minutes also noted that the Bank's most recent forecasts suggested that unemployment and inflation rates over the following couple of years were "likely to be short of the Bank's goals" and that "there was therefore a case to respond to the general outlook with a further easing of monetary policy."

Retail figures confirmed that spending intentions fell back in September, adding to our economic concerns.

The RBA minutes justified their decision to cut rates in October.

The Board noted that it was the level of rates rather than the change that was the important determinant.

They suggested that holding back rate cuts in anticipation of a negative shock was not the best policy. Instead, they felt it is better to cut rates, strengthen the economy immediately so that the economy would be better placed to absorb a negative shock.

When will the next rate cut occur?

The Board minutes leave little doubt that another cut is expected and it is clearly leaving itself the flexibility to move in November, but it is more likely that the next move will be in February.

We’re in for some interesting times ahead.

With thanks to PropertyUpdate.com.au and MyHousingMarket.com.au