Why the Reserve Bank of Australia won’t cut interest rates

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Weaker-than-expected jobs data from the United States is unlikely to lead to an official interest rate cut on Tuesday, but it could certainly create discussion surrounding further stimulus in the coming months.

Indeed, the Reserve Bank of Australia cut interest rates by 25 basis points to 1.5% when it met last month – a new record low. As it stands, the market is assigning a mere 5% probability that another ‘cut’ will be made to the cash rate on Tuesday, according to the ASX, but investors will be eager to draw any indications from the RBA’s commentary that further easing could be on the way.

The country’s low inflation rate has troubled the RBA in recent times, with the board clearly eager to provide some stimulus to the market to drive growth. It also hopes to drive an improvement in business confidence and investment whilst keeping the unemployment rate low.

The Australian dollar is another key concern for the RBA. Unofficially, members of the board have suggested that they would prefer the dollar to trade for around US65 cents, although it has traded for more than US77 cents recently. It’s fetching US75.9 cents at the time of writing.

The dollar has trended higher for a number of reasons, including rising commodity prices and, arguably, lack of indications from the RBA that further interest rate cuts are on the way.

Meanwhile, it remains unclear when the US Federal Reserve may look to increase interest rates in the United States. This isn’t strengthening the US greenback, and therefore, isn’t helping to weaken the Australian dollar by association.

However, the Reserve Bank will most likely assess that its most recent interest rate cut hasn’t had time to work through the system yet. Indeed, interest rates are already sitting at a record low, and the RBA won’t want to cut further without a solid reason to do so.

In short, it appears highly unlikely that the Reserve Bank will cut interest rates when it meets on Tuesday. What will be important in the market’s eyes, however, is whether it provides any indication as to whether it considered cutting further, or if further cuts could still be on the cards.

Still, the lack of information doesn’t appear to be a concern for investors today, who have bid the S&P/ASX 200 (Index: ^AXJO) (ASX: XJO) 1% higher at around 2pm AEST. Commonwealth Bank of Australia (ASX: CBA) and Westpac Banking Corp (ASX: WBC) shares have jumped 1.7% each, Telstra Corporation Ltd (ASX: TLS) shares have gained 1.4% and Wesfarmers Ltd (ASX: WES) shares are up 0.4%.

Regardless of whether or not the RBA does cut interest rates again in the near future, it does appear as though interest rates are set to remain lower for longer. For investors, that means large cash deposits will continue to earn low returns, while high-yield dividend shares could be a great place to park your money.

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Motley Fool contributor Ryan Newman has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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