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RBA watches European bank stress tests closely

Tuesday 20th July 2010

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The Reserve Bank of Australia will be closely watching the results of European bank stress tests due at the end of this week, saying it has potential for “significant impact” on financial markets and global confidence.

“In order to settle markets, it was critical that the stress tests be regarded as credible and that plans be put in place to deal with any capital shortfall identified in the stress,” central bank officials said in minutes of their July 6 meeting, when they kept the cash rate unchanged at 4.5%.

In all, 91 European banks will be tested for among other things, sovereign default risk, with the results to be published after the close of European trading on Friday, the Committee of European Banking Supervisors said this week. The detailed results will help investors and traders gauge the likely success of the European Union’s 750 billion euro bailout fund.

The EU has promised to make the funds available to banks that need propping up. The RBA’s minutes show consideration of the tensions in Europe’s financial markets was a major topic for the officials in deciding to keep interest rates on hold, including the downgrade of Greece’s debt ratings to below investment grade, the review of Spain’s credit rating and concerns over Hungary’s fiscal position.

The RBA minutes show it is also looking for more evidence of resurgent inflation before deciding on resuming interest rate increases.

“The important question for the board at its next meeting would be whether the new information materially changed the medium-term outlook for inflation,” the minutes say.

Australia’s central bank was the first in the world to resume a tightening cycle in the wake of the global financial crisis, with the first of increases in October last year. The economy of New Zealand’s biggest export market managed to skirt recession because of demand for its raw materials in China and fiscal stimulus measures aimed at underpinning domestic activity.

Australia’s government statistician is scheduled to release the consumer price index for the second quarter on July 28. That’s expected to show CPI rose 1% in the three months ended June 30, from 0.9% in the first quarter. The annual pace sped to 3.4% from 2.9%, according to a Reuters survey. The central bank aims to keep inflation within a 2% to 3% range on average.

The RBA next reviews interest rates on August 3 and currency strategists say the bank will be mindful of the general election looming on August 21.

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