RBA risks upsetting US$2 tln of credit funds if it cuts interest rates, economist says

Wednesday 15th April 2015

The Reserve Bank of Australia can’t afford to cut interest rates, even with an economy close to a per-capita recession, because it would risk upsetting some of the US$2 trillion of foreign credit funds parked in the Australian dollar, an economist says.

Andrew Hunt, who consults to a number of prominent asset managers, hedge funds, central banks and other official institutions, said both the RBA and the Reserve Bank of New Zealand are “no longer masters of their own house” because of the huge foreign positions in their currencies. He was speaking at a Nikko Asset Management conference in Auckland.

The RBA kept the cash rate on hold at 2.25 percent last week, surprising the market which had priced in a 75 percent chance of a cut. It has been under pressure to make cuts to help improve flagging iron ore prices and revive a moribund economy.

The RBNZ was in a better position than its Australian counterpart because it at least had some sort of growth with the Auckland housing boom and Christchurch rebuild, said Hunt, a British economist who has owned a house in Queenstown for 20 years and is living in Wellington for the winter with his family.

“The market may not be worth what it was but it’s doing a lot better than iron ore," he said. "At some point there will be a parity party and that just emphasises Australia and New Zealand should not have a common currency because they have very different economies".

Hunt said deflation had arrived in the global goods markets and its arrival threatens to trigger a sudden unwind of the global dollar carry trade that could become a serious threat to markets.

As Asia has tried to dispose of a big build up in its inventories of traded goods, trade volume has picked up but at low prices. The overall impact on global manufacturing trends has been negative which was deflationary for global growth, he said.

The European Central Bank’s quantitative easing announced in January has led to a modest improvement in inflation expectations but structural challenges could keep Eurozone inflation low for a long time, said Sean Reynolds, portfolio manager, fixed income for Goldman Sachs Asset Management.

He said the US Federal Reserve may delay its expected June hike in interest rates until September.

Reynolds said while there was good momentum for the US economy with forecast gross domestic product growth of 3 percent this year, weak inflation, a strong US dollar and global policy easing supported the case for a later move in interest rates.

More than 20 central banks have cut rates this year, weighing on their currencies. Inflation in the US remains below the Fed’s 2 percent target.

"The Fed can afford to be patient as there is not that much inflationary pressure,” Reynolds said.

BusinessDesk.co.nz

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