Australia central bank cuts rates to 3.5%

The local dollar showed little lasting reaction as the Reserve Bank of Australia's (RBA) decision was widely expected, though some had hoped for an even bigger cut given the darkening global outlook.

"The Board judged that, with modest domestic growth and a weaker and more uncertain international environment, the outlook for inflation afforded scope for a more accommodative stance of monetary policy," RBA Governor Glenn Stevens said in a statement after the central bank's monthly meeting.

The move was the second easing in as many months and follows grim economic data around the world, from U.S. payrolls to Chinese manufacturing. Australia's A$1.4 trillion economy is heavily dependent on foreign demand for its resource exports.

A Reuters poll of 23 analysts taken Monday found 16 had expected an easing this week to follow May's 50 basis point cut, and a majority tipped further cuts in coming months.

Rates are now the lowest since December 2009, but still far above those in the United States, Japan or Europe, which is one reason investors are pricing in as much as 100 basis points of further cuts within a year.

That would take rates beneath the record lows of 3% plumbed during the worst days of the global financial crisis.

Any easing will be welcomed by the Labor government, which is trailing badly in the polls yet is determined to tighten fiscal policy to return its budget to surplus years, if not decades, before most other rich economies.

Australian households are highly sensitive to mortgage rates as over a third have home loans, most of which are variable. Mortgage debt totals around A$1.2 trillion, or 1.5 times household disposable income, and paying the annual interest on it takes almost a tenth of those earnings.

A reduction of 25 basis points in the standard variable mortgage rates saves an average borrower around A$540 a year.

Australia's banks are expected to pass on only part of the latest easing to customers, choosing instead to maintain profit margins in the face of higher funding costs.

HOME GROWN

There are also plenty of home-grown reasons for the RBA to favour monetary stimulus right now.

Price pressures are subdued with measures of underlying inflation near the floor of the central bank's long-term target band of 2% to 3%, and fiscal policy is being tightened.

A strong currency and intense foreign competition has pressured manufacturing and tourism, while a shift in spending habits by penny-pinching consumers has scarred retailers and the housing market.

Australia's huge mining sector continues to enjoy a once-in-a-century investment boom, yet export growth has been hampered by a combination of bad weather and supply bottlenecks.

Official figures out on Tuesday showed the country's exports dropped by over 7 percent in the first quarter. As a result net exports subtracted 0.5% points from gross domestic product (GDP) in the first quarter.

The main GDP report is due on Wednesday and is expected to show the economy grew a sub-par 0.5% in the quarter, compared to the previous quarter.