Westpac bank has shocked borrowers by declaring that interest rates are "expected to fall" in the next 12 months. But what are the chances of it actually happening, and do the other banks agree?
Until last week, every major bank and lender – including Westpac – has been on record as forecasting a series of rate hikes later this year.
Initially, the Reserve Bank was expected to begin lifting the cash rate from July onwards, before economists pushed that prediction back to August, and then November.
And now, Westpac has become the first major bank to predict a rate cut instead of a rate rise over the next year.
The odds of a potential rate reduction rose at the beginning of last week, after concerns about the European sovereign debt crisis went into overdrive. Global traders, worried about another credit crunch, began pricing in the RBA cutting official rates in Australia. Evidently, so did Westpac.
‘‘We are now of the view that the direction of market pricing is probably correct and the next rate move in Australia will be down rather than up,’’ says Westpac chief economist Dr Bill Evans.
‘‘Interest rates are too high in Australia, given the state of the non-mining sectors of the domestic economy, and a downward adjustment is required to avert a damaging round of contraction.”
He believes the RBA will slash the interest rate four times in 2012, reducing the official cash rate by 1%, to avoid hurting an economy that is already showing signs of contraction.
"While the catalyst for the first rate cut is likely to come from offshore, we do not expect it to be a one off," Evans says.
"We now expect a sequence of rate cuts beginning with 25 basis points in December 2011 and through 2012, totalling 100 basis points prior to a period of steady rates in 2013.This rate adjustment is likely to take a similar form to previous easing cycles."
All three of Australia's other "Big Four" banks still forecast at least one rate increase from the RBA in the coming months: Commonwealth Bank believes it will come in a few weeks, NAB expects one in December, and ANZ predicts a hike in February 2012.
The median estimate of a survey of 21 economists by Bloomberg News expected that the RBA would raise the official cash rate a quarter of a percentage point, to 5% in November. Brad Gibson, head of rates strategies at ING Investment Management in Sydney, believes that "the RBA is near the end of its tightening cycle".
"Given the deteriorating global situation, it is increasingly difficult to see an RBA hike in the months ahead – though a higher cash rate in Australia in the medium term is still our central case."
Meanwhile, credit markets are tipping a 33% chance of a rate cut when the RBA meets in August, while the outlook over 12 months suggests the cash rate will decrease from 4.75% to 4.25%, according to Credit Suisse.
With all of these predictions and forecasts, no one has a crystal ball to know exactly what will happen – so what’s a borrower to do?
If you can financially ride out the variable rate storm, it seems that it pays to keep your mortgage on a flexible rate, so if Westpac’s predictions do come true, you’ll benefit from lower repayments. Keep in mind however that economic news changes from day to day, so a rate cut is by no means a certainty.
"The question [is], what might drive the RBA to cut? Either something goes catastrophically wrong in Europe, in which case they’ll cut by 100 basis points, or the domestic economy continues to weaken," says Sally Auld, an interest rate strategist at JPMorgan Chase & Co, adding, "We really don’t know what’s going to happen one day to the next in Europe."