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Reserve Bank of Australia Announcement – November 2020

by Financial Keys

At its November meeting, the Reserve Bank of Australia (RBA) announced a package of stimulus measures, largely as expected by economists and market participants, as both the Governor and Deputy Governor of the RBA had well flagged their intentions in the lead up to the meeting.

The RBA made it clear that whilst recent economic data looks better than previously expected, they remain very concerned regarding the medium term outlook specifically regarding unemployment; and more-so underemployment and inflation remaining below their target.

The stimulus measures include both immediate action and quite explicit forward guidance regarding their intentions over the medium term. Whilst the measures have plenty of direct and indirect implications, the RBA’s clear intentions are three-pronged:

  1. To lower borrowing rates for the government (both Federal and State) and the financial system, specifically banks

  2. To provide additional liquidity and encourage the financial system to lend (i.e. credit growth)

  3. To put a lid or cap on Australian dollar strength to ensure a rising currency doesn’t hurt the economic recovery

This was their first significant policy change since March and also the first time the RBA has initiated traditional quantitative easing (QE). The measures include:

  1. A reduction in the RBA Cash Rate from 0.25% to 0.10%, to encourage banks to lower their loan rates

  2. A reduction in the 3 year Australian government bond yield target to 0.10% (which the RBA fixes through their market operations, i.e. buying these bonds)

  3. A reduction on new drawings under the Term Funding Facility to 0.10%, the rate at which banks can borrow from the RBA

  4. A reduction in the interest rate on Exchange Settlement balances from 0.10% to 0%, the rate at which the financial system settles payments

  5. The introduction of traditional QE (i.e. money printing to fund government bond purchases), with their intention to buy $100 billion of bonds with 5-10 year maturities over the next 6 months, to lower medium to longer term borrowing costs

The RBA also gave fairly explicit forward guidance regarding their Cash Rate intentions.

They will not be increasing the Cash Rate until actual inflation is sustainably within their target range of 2-3%, which means we need to see significantly higher wage growth from here. Considering the RBA’s unemployment outlook, the 0.10% Cash Rate is expected to be in place for at least 3 years, but could be closer to 4-5 years.

The RBA also remained firm and clear that they have plenty of stimulus ammunition remaining.

What does this all mean for businesses, households, and markets?

The clear intention is to both lower borrowing costs and encourage banks to lend to businesses and households to stoke investment which will ultimately lead to declining unemployment and asset price inflation (i.e. higher equity markets and property prices). They also want to ensure the financial system is awash with liquidity to both provide comfort and support whilst also “encouraging” (forcing) participants to take more risks to help lower unemployment and support economic growth.

The RBA wants governments to be able to run larger budget deficits without having to worry about their ability to borrow and borrowing costs. Lastly, they want to ensure the Australian dollar doesn’t surge from here, given already upward pressure from commodity prices, so that the economy can be supported by an export-led recovery.

This can be viewed as positive for risk assets – shares, property, infrastructure, and riskier parts of the bond spectrum. This does not mean you should take unchecked and unnecessary risks.

Financial Keys continually work with clients to manage an appropriate asset allocation and mix between growth and defensive assets. We are seeing the general public and ‘non-advised’ investors concerned about the return expectations from defensive assets as cash and bond yields are driven to zero.

As always, please contact Financial Keys to discuss your personal financial strategy and portfolio.

 

November 4, 2020
 
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