Why has the market done an about-turn on RBA's cash rate?

By Gerv Tacadena

Market watchers have been steadfast in their predictions of an eventual interest-rate hike, reinforced by the Reserve Bank of Australia's confidence that the next move is likely upwards.

Over the past year, market watchers have been steadfast in their predictions of an eventual interest-rate hike, reinforced by the Reserve Bank of Australia's confidence that the next move is likely upwards. In recent months, however, many experts seemed to have a change of heart.

The market appears to be in agreement that there is now a 50% chance that RBA will cut the official interest rate this year instead of hiking it, bringing it from 1.5% to 1.25%.

In a think piece on The Sydney Morning Herald, industry analyst Clancy Yeates said some market watchers have been sceptical about RBA's optimistic insight on Australia's economy given the uncertainties outside the country.

"Overseas, the world economy's growth prospects appeared to take a hit from the trade tensions between the United States and China, while the Brexit mess is yet another cloud on the economic horizon," he said.

Furthermore, the financial markets in the US are betting that the Federal Reserve will put a lid on interest-rate rises this year, a fact which Yeates said could have influenced the view on RBA's next move.

The housing downturn, which has resulted in the sharpest fall in consumer confidence in the past three years, is also a major driver of the change in the projections of market watchers. The house-price weakness is anticipated to continue this year, and some economists like AMP Capital's Shane Oliver believe that there is a risk of a 20% peak-to-trough price fall in Sydney and Melbourne.

In a separate report in Business Insider Australia, Oliver said the RBA would have no choice but to cut interest rates further due to the housing downturn’s impact on the economy.

"The housing downturn will affect the broader economy via slowing dwelling construction, negative wealth effects on consumer spending and if rising defaults drive a further slowing in bank lending. The first two will detract 1 to 1.5 percentage points from economic growth," he said.

Oliver believes that to help boost Australia's economic resilience, the RBA will be cutting the official rates twice this year — once in August and again in November, bringing the cash rate to 1% by the end of the year.

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