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The low interest rate party looks over

10 May 2022 1 month(s) ago

The first rate hike in over 11 years signals the end of cheaper and cheaper debt, which has caused asset bubbles around the world.

The Reserve Bank’s decision to raise the base rate by 25 basis points to 0.35% is signalling that the long downward trend in interest rates, which has greatly benefitted asset markets such as housing and shares, is probably over.

Rates are still extremely low by historical standards, of course. The sharp drop on the ASX probably has more to do with what is happening in the US than local rate rises.

The world still has not recovered from the shock of the 2008 GFC. All that has happened is world debt has spiralled out of control, and now even small rate rises have a huge effect. There will be no return to the 17% under Paul Volcker in the 1970s when stagflation hit the US. Mind you, the financial markets are completely different now. There is no longer a simple trade off between domestic money supply and inflation as there was then.

Deutsche Bank was surprised:

“In one of the most closely watched, and opined upon, RBA meetings in our memory, the RBA still managed to delivered an outcome that barely anyone appears to have considered. Specifically: a 25bp hike. The RBA called that a return to "normal operating procedure", but in context, we describe it as hawkish.”

DB reckons there are more hikes to come: “50bps remains our base case for June.? a 25bp hike in August (to 1.1%), 25bp hike in November (to 1.35%), and 25bp in December (to 1.6%).”

Qantas, Ramsay Health Care and Qantas had the biggest falls after the rate rise:

DB says the quantitative easing (printing money by buying back government bonds) will not be reversed with sales of those bonds (QT):

“From the post-meeting statement: "the Board is not currently planning to sell the government bonds that the Bank purchased during the pandemic". In response to a question (from DB) about the circumstances under which that might change and whether the Board had considered the costs and benefits of active QT, the Governor indicated that the possibility is "remote, but never say never".

“Also, however: "the possibility is so remote it is not worth elaborating on". On the back of that, active QT remains outside our baseline. (For now, at least: it was not that long ago that the possibility of rate hikes in 2022 was so remote it wasn't worth elaborating on that, either.)”

Bell Potter noted that it is the first rate hike in Australia in 11 and a half years:

“Many thought they’d do nothing or maybe a small hike and wait for GDP and wages data still to come out - but this is the 1st step that will be quickly ?followed by another hike next month on Tuesday 7th June. The market after the rate hike immediately dropped -40 points from -7 ?points to a low of -47 points, then recovered off that low as the afternoon ?progressed.”

Bell Potter also noted that this is only the second time in history that the RBA has increased rates in an Election Campaign. The last time was 7th November 2007 & just over 2 weeks later the ?Government of the day – the Coalition led by John Howard was thrown out and the ALP’s Kevin Rudd was the new PM.

While true, after two years of the covid panicdemic the electorate is traumatised. There is probably also a sense that the extreme measures taken against people, such as lockdowns, vaccine passports and choosing between a jab or a job, would have an inevitable economic fall out.

On the other hand people with big mortgages will be very worried. But will they think Labor a better option to keep rates down?

Anybody’s guess, really.

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