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Australia dollar tumbles as soft CPI reduces bets on RBA interest rate hike next week



THE chances of an RBA interest-rate hike next week diminished after soft inflation data today, sending the Australian dollar sharply lower.

Expectations of a near-term hike have heightened in recent weeks, after the central bank surprised the market by keeping rates on hold for a fifth straight month in October. A series of hawkish central bank speeches and a steady stream of strong economic data, thanks to the country's mining boom, had 30-day interbank futures pricing in a 50 per cent chance of a November rate hike before the data.


But in a late morning report, the consumer price index rose 0.7 per cent in the third quarter and rose 2.8 per cent from a year earlier, the Australian Bureau of Statistics said. Economists on average had expected a rise of 0.8 per cent over the quarter and 2.9 per cent on year.


Core inflation, which is critical for policy-making decisions, rose 0.6 per cent in the third quarter ended September 30, compared with a rise of 0.7 per cent in the previous quarter.

“It's difficult to raise rates after a set of numbers like these,” said Michael Blythe, chief economist for Commonwealth Bank of Australia, who pushed his interest rate hike forecast to December from November.


In a survey of 13 economists by Dow Jones Newswires following the inflation data, only two economists still forecast the RBA will hike rates 25 basis points from the 4.5 per cent level next Tuesday, when the RBA meeting will be overshadowed locally by the annual Melbourne Cup horse race.


With the RBA's October minutes describing the case for further hikes as “finely balanced”, the inflation data counts heavily against an interest rate increase. Couched against a still uncertain global outlook, which includes high anxiety ahead of expected moves next week in the US toward more quantitative easing from the Federal Reserve, economists said the RBA now has time to wait.


Notably, the central bank's primary mandate is to target inflation, with today’s report doing little to push inflation outside its target range.

“Inflation is right in the middle of the Reserve Bank's 2 per cent-3 per cent target band,” said Macquarie economist Brian Redican, who said the US Fed’s decisions loom large in pushing any potential Australian rate hike into December.


Still, any tempering of short-term inflation concerns doesn't hide the fact that inflation remains a key concern in Australia, say economists. The RBA led the world in removing monetary stimulus after the global financial crisis, hiking 150 basis points between October 2009 and May this year.


Those past hikes appear to have worked in slowing the economy, though other factors continue to point to another round of tightening.


The RBA has already warned that the strongest terms of trade in 60 years will drive the economy just when the economy is on the verge of full employment. RBA Governor Glenn Stevens said on Monday that strong commodity prices were delivering a positive shock to the economy and policy settings need to reflect that.

Partly reflecting this boom in terms of trade, the Australian dollar surged to its highest levels since the currency was floated in 1983 during the quarter, briefly reaching parity with the US dollar. The currency closed the quarter up 16 per cent from where it began against the US dollar.


Today, the Australian dollar was savaged after the CPI data, while government bond futures surged sharply.


Late this evening, the Australian dollar traded at US97.39 cents, down from US99.08c yesterday. Against the Japanese yen, the currency traded at Y79.525, down from Y80.05.


While the Australian dollar slid, bonds were bought heavily, especially on the short end.


Notably, 30-day interbank futures had been pricing in a 50 per cent chance of a November rate increase prior to the inflation data but were recently only pricing in about a 16 per cent chance.

"Following lower than expected CPI, the RBA is likely to hold policy at 4.5 per cent into 2011 - and possibly well into 2011," said Matthew Johnson, interest rate strategist with UBS in Sydney.


After the report in the interest-rate futures market, the 3-year bond gained 8 ticks to 95.08, while the 10-year bond traded off 3.5 ticks at 94.775.


Even if the central bank keeps rates steady, CBA's Blythe notes that today’s report didn't alleviate even some short-term concerns. He noted prices on clothing, consumer durables, holiday travel and accommodations all rose in the past quarter.


And given the broader trend for inflation, Paul Bloxham, chief economist at HSBC and formerly of the RBA, said the data doesn't rule out a hike in November entirely.


He highlighted that strong price gains over the quarter in housing and imports mean the RBA could yet tighten the monetary policy reins.

“It doesn't rule it out,” he said.


With Enda Curran




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