The Reserve Bank of Australia (RBA) has cut the official cash rate to an all-time low of just 0.25% – in turn, initiating unconventional monetary policy in Australia. What does this mean?
At an emergency board meeting on Thursday 19 March, the Reserve Bank of Australia (RBA) cut its official cash rate to a new low of just 0.25% – initiating unconventional monetary policy for the very first time in Australia following two decades of uninterrupted economic growth.
Following the meeting, the RBA announced that it would adopt the following measures:
- A reduction in the cash rate to 0.25%, which the RBA has stated it “will not increase” until “progress is being made towards full employment” and until the central bank “is confident that inflation will be sustainably within the 2–3% target band”.
- A bond yield target and the establishment of a target for the yield on 3-year Australian Government bonds of around 0.25%. This means the RBA will be prepared to purchase government bonds in a sufficient quantity – whatever the level may be –in the secondary market to drive the yield on these bonds to around 0.25%. The RBA has said that “purchases of government bonds and semi-government securities across the yield curve will be conducted to help achieve this target” as well as “address market dislocations” commencing today (Friday 20 March).
- The establishment of a term funding facility for the banking system, “with particular support for credit to small and medium-sized businesses”. The RBA will provide a three-year funding facility worth $90 billion to authorised deposit-taking institutions (ADIs) at a fixed rate of 0.25%. However, ADIs will also be able to obtain initial funding of up to 3% of their existing outstanding credit and will also have access to additional funding if they increase lending to businesses – especially small and medium-sized businesses.
- Exchange settlement balances at the central bank will be remunerated at 10 basis points, rather than zero as would have been the case under the previous arrangements.
- The reduction of the target cash rate to the effective lower bound (ELB) and the commencement of quantitative easing came as no surprise to financial markets. The reference to full employment and inflation targets reinforces that the RBA will maintain a low cash rate for “a prolonged period of time”. In fact, RBA Governor Lowe said that the 3-year bond yield target would likely be removed before the cash rate is increased above 0.25%. The adoption of a 0.25% target for these bonds should “anchor” the short end of the yield curve. As expected, the 3-year bond yield plunged from 0.43% to 0.32% after the announcement. Perhaps the bigger question now is whether the long end of the yield curve will follow?
- Following the central bank’s announcement, Prime Minister Scott Morrison announced that Australia would close its borders to all non-citizens and non-residents in an expanded Coronavirus travel ban. It is also believed that the Australian government is working on a second stimulus package that will be “significantly bigger” than the last – worth nearly $18 billion.
- The ASX 200 closed the day’s trading at just 4,782 points – taking losses to roughly 14% for the week. The Australian Dollar traded as low as 0.55 US cents.
- Elsewhere, US share markets edged slightly higher overnight, indicating some confidence from investors following economic and financial measures announced worldwide. At the close of trading, the S&P 500 was up 0.5%, the Nasdaq finished up 2.3%, while the Dow Jones ended the day up nearly 1%. However, while share markets made small gains, the yields on US 10-year Treasuries declined marginally to 1.16%.
- Across Europe and the UK, share markets also rose – with the UK FTSE up 1.4%, the German Dax up 2% and the Stoxx Europe 600 index rising 2.9%.
- The establishment of a term funding facility is more of a surprise to markets, and has been modelled after a similar measure used by the Bank of England following the Global Financial Crisis. Lenders will be able to draw on the initial facility until September 2020, and it is intended to encourage lenders to increase financial support to businesses, especially small and medium-sized businesses.
- Overall, the RBA’s initiatives are as aggressive as one can reasonably expect. It should help in alleviating the cash flow problems faced by many businesses over the next few months due largely to the economic flow-on effects of the Coronavirus.
# Source www3.colonialfirststate.com.au/