Smaller rate cut now more likely

A half-percent reduction in Australian interest rates in December appears off the agenda at this stage following a distinct change in the economic mood this past week.

A 0.25 percentage-point cut next month is now a more likely result, with any cut at all not yet guaranteed.

It’s also time for an early warning signal for those following fixed interest rates. Bond markets are always the first to react to changes in sentiment and this week saw yields being pushed up sharply. If positive signs continue we may be close to the bottom for home-loan fixed rates.

A solid rebound in US retail sales and better-than-expected local consumer confidence figures combine with signals from the Reserve Bank that it is a bit more relaxed about economic downturn than analysts and commentators have been in recent weeks.

The RBA’s monetary policy statement released on Monday (when all else was still doom and gloom) suggests that it feels it’s already done much to underpin the economy in previous rate cuts. It says the domestic economy remains fairly strong and, while there is a significant threat to our economy from downturn internationally, the US is the key to restoring world growth and easing that threat.

The RBA makes the valid point that the jump in home-building and housing-finance approvals this year may have passed but that the real stimulus to the economy is yet to come over coming months as new homes actually get built.

A string of bad figures from the States in past weeks has been followed by a welcome 7.1 per cent rise in US retail sales in October. This may well be a sign that, after the initial shock of September 11 and the deep-seated uncertainty it created, people are starting to go about their normal business again with a life-goes-on attitude.

While the rapidity of the change in sentiment this last week is itself a cause for caution – it can reverse just as quickly on one piece of bad news – there now appears to some signs of light at the end of the tunnel in the US.

One positive result does not create a trend but if followed by further signs of resilience or, heaven forbid, upturn in the US economy, it may mean we’re now at the bottom of the economic cycle. The recovery in the US sharemarket has now been sustained for almost two months and is further tentative evidence that American confidence may be on the rise.