Australia ’s central bank has hiked the country’s key interest rate to 5.75%. The move was the first change in 14 months, and left the rate at its highest since February 2001.
The move took analysts by surprise. Shane Oliver at Sydney-based AMP Capital Markets described the move as “a knock on the head” for retail sales and the housing market, which have been steadily recovering from a stagnant 2005.
So why the shock move? “The board judged that inflationary risks had increased sufficiently to warrant an increase,” said Reserve Bank of Australia Governor Ian Macfarlane. Consumer prices are currently rising in Australia at a rate of 3% a year, while underlying inflation has hit 2.75% - far ahead of the bank’s expectations.
Property firms and retailers bemoaned the move. They say they are already suffering the effects of high petrol prices on consumer demand. But if consumers are really feeling the pain that badly, it’s not showing up in borrowing figures. Loans to buy houses jumped by 13% in the year to March, and retail sales rose by 0.7% in February, far stronger than expected.
Of course, unlike the UK, Australia has the benefit of a strong export sector. The country supplies 43% of China’s iron ore and almost as much of its coal. Rising commodity prices suggest “a strengthening in the outlook for Australia’s export earnings, with consequent expansionary effects on incomes and spending,” said Mr Macfarlane.
But that doesn’t mean the UK won’t have to hike rates. The higher that global interest rates rise, the more difficult it is for other countries to maintain low rates. Generally, countries with lower interest rates will have weaker currencies – and a weak currency means imported inflation.
The dollar’s recent dive illustrates this point nicely. The greenback has fallen sharply against both the euro and the pound since recent comments by Fed chief Ben Bernanke were taken to mean that US interest rate hikes will end soon. Despite claims that the media had misunderstood what he said, the dollar’s decline has continued.
In fact, as one Money Morning reader points out, confidence in the US currency is so low that “even the Russians are putting the boot in.” An article in the Moscow Times points out that Finance Minister Alexei Kudrin has already declared the dollar as “unreliable as a reserve currency.”
What does this all add up to? When people are losing faith in the dollar, that means they are losing faith in paper money in general. We don’t imagine that the ruble will ever end up as the world’s reserve currency, for example.