RBA cuts rate by 25 basis points

Surprise! Central bank cuts official cash rate to 2.75%

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In a surprise move, the Reserve Bank of Australia has cut the official cash rate to 2.75%.

Debate is now raging as to whether this is the lowest rate since the 50s or 60s, or possibly ever. What is known is that this is the lowest rate the RBA has ever quoted. It seems the central bank is concerned about global growth, the stubbornly high Australian dollar, subdued demand for credit and inflation is lower than they had expected.

“The Board has previously noted that the inflation outlook would afford scope to ease further, should that be necessary to support demand. At today’s meeting the Board decided to use some of that scope. It judged that a further decline in the cash rate was appropriate to encourage sustainable growth in the economy, consistent with achieving the inflation target.

The exchange rate, on the other hand, has been little changed at a historically high level over the past 18 months, which is unusual given the decline in export prices and interest rates during that time. Moreover, the demand for credit remains, at this point, relatively subdued.”

Despite the now 2% in total cuts to the official cash rate since November 2011, consumers have been reluctant to borrow, and have been content to pay down mortgages, loans and credit card balances. Some commentators have suggested this cut is unlikely to persuade consumers to go out and borrow, and much will depend on how much of the cut the banks pass on to housing borrowers. National Australia Bank (ASX: NAB) has already announced that it is passing on the full 25 basis points. We’ll have to wait and see if聽ANZ Bank (ASX: ANZ), Commonwealth Bank (ASX: CBA) and Westpac Banking Corporation (ASX: WBC) follow suit.

Foolish takeaway

For term deposit holders, if the banks all pass on the full rate cut to mortgage borrowers, expect term deposit rates to drop further, making shares paying fully franked dividends even more attractive.

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