Australian Central Bank Cut Rate on Threat to Growth

By Jacob Greber

Sept. 16 (Bloomberg) -- Australian central bank policy makers cut borrowing costs this month for the first time in seven years because the risk of leaving the benchmark rate too high for too long outweighed the danger of stoking inflation.

``In that event, demand could weaken more sharply than necessary,'' members of the Reserve Bank's board said in minutes of their Sept. 2 meeting, released in Sydney today. ``This would deliver a faster reduction in inflation, but at greater short- term economic cost.''

Today's minutes also show the bank's goal of cooling inflation, which has accelerated above its target range of 2 percent to 3 percent, means monetary policy could ``need to be on the restrictive side of normal for some time ahead.'' Governor Glenn Stevens reduced the overnight cash rate this month from a 12-year high to 7 percent and signaled policy makers were questioning whether to cut again or hold.

This month's rate cut ``wasn't a fait accompli,'' said Stephen Walters, chief economist at JPMorgan Chase & Co. in Sydney. ``They debated the risk of going too early, rather than too late.''

The timing of Stevens' next interest-rate cut depends on whether U.S. Federal Reserve Chairman Ben S. Bernanke reduces borrowing costs tomorrow, Walters added. ``Things have changed a lot in recent days.''

The chance of Bernanke cutting the benchmark by a quarter point to 1.75 percent has soared to 68 percent from 12 percent, futures trading shows.

Currency Slumps

The Australian dollar fell to 78.96 U.S. cents at 12:19 p.m. in Sydney, its lowest in more than a year, from 79.52 cents before the statement was released. The two-year government bond yield was little changed at 5.35 percent.

There is mounting evidence Australia's A$1 trillion ($790 billion) economy is slowing after 17 years of expansion. Gross domestic product grew 0.3 percent in the second quarter, the weakest pace in more than three years, as consumers cut spending for the first time since 1993.

The central bank forecast last month that the economy will expand 2 percent this year and 2.5 percent in 2009 after growing 4.3 percent in 2007.

``Members concluded that the slowdown in demand the board had been seeking was unfolding,'' the minutes said.

``A necessary precondition for a decline in inflation back towards the target was therefore in place, even though evidence for that decline would not be seen in the figures for some time.''

Inflation Fight

Policy makers raised the benchmark rate four times between August 2007 and March to temper an inflation rate that climbed to 4.5 percent in the second quarter. The bank expects consumer- price gains will peak at 5 percent in the fourth quarter, before falling below 3 percent in 2010.

``There were risks in easing too soon, since the evidence for the expected fall in inflation was still some time away,'' today's minutes said. ``However, there were also risks in waiting too long to have some easing of policy from a quite restrictive setting.''

Commercial lenders such as Commonwealth Bank of Australia and Westpac Banking Corp. may face a rise in costs in coming months as a ``large amount of bonds was due to mature around the world in the next few months,'' the minutes said.

That ``would lead to a considerable rise in global issuance and could put pressure on the costs faced by banks.''

Today's minutes come amid increased speculation that credit-market losses and the global economic slowdown will worsen after Lehman Brothers Holdings Inc.'s bankruptcy.

Stocks Tumble

Australia's benchmark S&P/ASX 200 stock index tumbled 2.5 percent at 12:15 p.m. in Sydney after U.S. stocks had their steepest drop since the September 2001 terrorist attacks.

``A lot of things have happened since the Reserve Bank's meeting and that means today's minutes aren't a great guide to their thinking at the moment,'' said Michael Blythe, chief economist at Commonwealth Bank of Australia in Sydney.

``On the economy alone, they wouldn't be cutting rates. Yet the state of financial markets means there is room for a decrease in October,'' Blythe added.

Today's minutes suggest policy makers are concerned that export income, which has surged 20 percent this year, is ``unlikely'' to be as strong in the year ahead because of slowing global growth.

Demand for iron ore from China is helping offset weaker household spending, and threatens to drive up wage demands as companies such as Rio Tinto Group expand mines and boost hiring.

``Wage growth at present was seen as being at the upper end of the range in the inflation-targeting period,'' today's minutes said.

Governor Stevens is due to give a speech in Sydney tomorrow.

To contact the reporter for this story: Jacob Greber in Melbourne at jgreber@bloomberg.net.