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Australian interest rate: expected to rise further

26th October 2007
By Petter Ingemarsson

Australian financial markets are expecting two more rate rises in 2007.

The Australian Reserve Bank looks set to raise interest rates after the recent release of unfavorable inflation figures. In response, financial markets have priced in two interest rate rises in 2007. This will no doubt impact upon the mortgage market, at a time when housing affordability is already low, as lenders will be forced to pass these rates onto their financially strained customers.

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The Reserve Bank of Australia (RBA) will in all probability raise the cash rate to 6.75% when it convenes in November, marking the ninth consecutive rate rise. This comes after the latest inflation figures show that underlying inflation in the last quarter reached 0.9%. Moreover, the financial markets expect yet more rate rises before the end of the year. Australian interest rates have not been as high as they currently are since 1996.

This runs counter to the trend in many other countries, including New Zealand, the UK and the US, where rates are expected to fall. Most observers expect the US Federal Reserve to drop interest rates by 0.25% when it next meets. However, strong growth in Asia has led to a rising rate environment in China, Japan and South Korea. Australia has close trade ties with Asian countries, and strong demand for commodities has helped fuel the Australian economic boom. At the same time, record low unemployment has contributed to inflationary pressures. This, in turn, led to three rate rises in 2006, with a further two rate rises expected before 2007 is over.

This news is especially important because of its timing. The election is just around the corner, and the sitting government will doubtlessly be confronted on housing issues. Mortgage holders and prospective first home buyers are already strained, and housing affordability is at an all-time low. Two rate rises in 2007 would force many lenders to raise their mortgage rates substantially. However, the government is bound to point out that, in a historical context, current interest rates are still at the lower end of the spectrum; in the early 1990s, interest rates reached 17%.
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