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Interest rates

Interest rates – no easy decision

Simon Curtain
Partner/Private Client Adviser
29 Aug 2011

The cash rate, set by the Reserve Bank of Australia (RBA) each month, is currently at 4.75 per cent. Over the past 30 years the cash rate has fluctuated between 3 and 14 per cent per annum.

As most would know, the cash rate is set to keep the economy, or more specifically, inflation in check. The RBA aims to keep inflation between two and three per cent per annum. If the economy is performing strongly and inflation looks to be heading above this target band then the RBA will increase rates. Conversely the RBA will reduce rates if the economy is lagging and inflation is tracking below the band.

Inflation is currently tracking at around 3.6 per cent annum, therefore, based on this figure one would expect the RBA to increase rates in the near future -slowing the economy and bringing inflation back within the target band.

However when we dig a little deeper, we find a key problem presenting itself to the RBA – the two speed economy.

While the mining industry is experiencing a ‘mega-boom’, other sectors of the economy, such as manufacturing and retail are struggling to perform in the current climate.

This presents the RBA with a unique problem. They can’t simply raise interest rates to keep the mining boom in check, as this will significantly affect struggling industries. However, they can’t slash rates either as while this would certainly help some sectors of the economy it would also speed up the mining boom.

While I certainly don’t envy the RBA in making their decision, I personally think that they should give consideration to the once in a generation mining boom we are experiencing by letting it continue to run and let inflation drift to above  three per cent band over the medium term.

In doing so, the RBA will be able to reduce interest rates, stimulate the rest of the economy and assist those struggling industries through these difficult times.

Unfortunately it is not this simple as there are a myriad of factors that come into play in determining the appropriate cash rate for our economy. Only time will tell if the decision to let the mining boom run, or stimulate the lagging sectors will be the right one!

Hewison Private Wealth is a Melbourne based independent financial planning firm. Our financial advisers are highly qualified wealth managers and specialise in self managed super funds (SMSF), financial planning, retirement planning advice and investment portfolio management. If you would like to speak to a financial adviser on how you can secure your financial future please contact us 03 8548 4800, email info@hewison.com.au or visit www.hewison.com.auPlease note: The advice provided above is general information only and individuals should seek specialised advice from a qualified financial advisor. The views in this blog are those of the individual and may not represent the general opinion of the firm. Please contact Hewison Private Wealth for more information.