Rates on hold

Update The Reserve Bank has left interest rates unchanged, providing relief for borrowers and retailers in the crucial shopping weeks before Christmas.

The central bank kept rates at 4.75 per cent - the level it raised them to last month - amid signs of weakness in parts of the economy not benefiting from the rekindled mining boom.

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"Christmas is the ‘grand final' of retail trade with some stores taking in up to 40 per cent of their yearly turnover from mid-November to Christmas Eve, so there would be relief that rates are on hold at this important time of year," ARA executive director Russell Zimmerman said.

RBA governor Glenn Stevens said Australia was enjoying the best trade conditions since the early 1950s, "and national income is growing strongly as a result".

Mr Stevens noted lending rates were "a little above average", following last month's interest rate rises. While inflation is likely to be steady for now, "it is likely to increase somewhat over the medium term if the economy grows as expected", he said in a statement.

Today's decision matched the expectations of economists and investors, unlike the last two monthly meetings when the RBA surprised pundits with rates decisions in defiance of the consensus among analysts.

The Australian dollar fell on the RBA comments, dropping to as low as 98.9 US cents from about 99.1 US cents just before the announcement, before bouncing back. Investors raised their bets that interest rates are likely to remain on hold for some months.

Patchy growth

The central bank opted to keep rates steady after a string of weaker economic figures in recent weeks, including data showing the economy expanded by a disappointing 0.2 per cent in the third quarter. Excluding the farming sector, the overall economy actually shrank during the period.

More recently, data for October showed retail sales dropped 1.1 per cent for the month even before the RBA lifted its key interest rate by 25 basis points in November.

The rates move prompted all the major banks to tack on additional rate rises of their own, sparking public anger and prompting the government to propose reforms to increase competition among banks. Treasurer Wayne Swan may release details of those changes as soon as tomorrow.

"An increase in residential mortgage rates above the Reserve Bank's 25-basis point cash rate increase in November has allowed the central bank to put off its tightening," said Moody's Economy.com analyst Matthew Circosta.

"Nevertheless, the red-hot labour market is sure to lift wages and accelerate both consumer demand and inflation in the coming quarters," Mr Circosta said.

The strength of the jobs market has been a key concern of the RBA, with analysts tipping the unemployment rate will drop to 5.2 per cent from 5.4 per cent when the Australian Bureau of Statistics releases labour force figures for November on Thursday.

"Employment growth has been very strong over the past year, though some leading indicators suggest a more moderate pace of expansion in the period ahead," said Mr Stevens. "After the significant decline last year, growth in wages has picked up somewhat, as had been expected. Some further increase is likely over the coming year."

Rate rise ahead?

Before today's decision, investors were betting the official interest rate would be at 5 per cent in a year's time. That view was little changed after today's announcement.

The RBA board does not meet in January - except in exceptional circumstances when an extraordinary meeting can be called - so any move on official rates is unlikely to come before February.

JP Morgan economist Ben Jarman expects another RBA interest rate rise at the beginning of next year."[The RBA] keeps putting the terms-of-trade boost front and centre," he said."So that tells you what they think of the medium term inflation outlook."

The Australian dollar's value and retail banks' independent rate moves will be the deciding factor for rate rises through the rest of next year, Mr Jarman said.

$A, China, India

The dollar's gain this year - 12.5 per cent in the past five months against the US dollar - has probably helped the RBA avoid even more rate rises. It also matched its record high against the euro, at 74.5 euro cents, first reached yesteday.

The central bank lifted rates in March, April, May and last month. Added to the three rate rises in 2009, the RBA's 175 basis-point increase since it began tightening monetary policy is largest among developed economies.

Then again, Australia's economy was one of the few to continue growing through the global financial crisis - with the exception of one quarter of contraction - a relatively strong performance that's not been lost on international investors who have flocked to the dollar.

"The exchange rate has risen significantly this year, reflecting the high level of commodity prices and the respective outlooks for monetary policy in Australia and the major countries," Mr Stevens said. "This will assist, at the margin, in containing pressure on inflation over the period ahead."

While Australia's latest growth numbers were soft, the economy is about to receive a wave of investment and export revenues as the mining boom accelerates.

"[R]ecent data suggest that the Chinese and Indian economies have continued to grow strongly and price pressures, particularly for food, have picked up in China as well as a number of other economies in Asia," Mr Stevens said.

Today's comments prompted some analysts, such as Michael Blythe, chief economist at Commonwealth Bank, to push back their expectations of the next RBA rate rise.

"They are fairly comfortable with where things are and where the economy is heading, suggesting no great need to rush in with another rate rise," Mr Blythe said.

"We have February pencilled in at the moment (for the next rate hike), but that sounds a little soon and we may have to push that back a bit. Sometime in the first half of next year," he said.

czappone@fairfax.com.au

BusinessDay, with Reuters