Inflation triggers rates rise

Australia's central bank raised interest rates yesterday for the first time in over a year, looking ahead to inflationary pressures rather than back at data showing economic growth had slowed to a snail's pace.

The anaemic growth in the final quarter of 2004 raised questions about the need for any further monetary tightening by the Reserve Bank of Australia, although interest-rate markets are already pricing in another quarter-point increase.

"It's one of the strangest dichotomies we've seen in a while," said Michael Every, senior economist at RBC Capital Markets, noting the bank had raised rates a quarter point while talking about firm domestic demand at the same time as Government data showed weak growth in the final two quarters of 2004.

The Australian dollar dropped on the GDP data, with the rate rise giving it only a brief lift.

The central bank raised its cash rate to 5.5 per cent from 5.25 per cent, as economists had expected after its warnings on inflation and the tight labour market, with the jobless rate at a 28-year low.

But official data shortly after showed seasonally-adjusted gross domestic product grew by just 0.1 per cent in the fourth quarter from the third, well below a median forecast of 0.5 per cent and its slowest rise since the last quarter of 2000. Third quarter growth was revised to 0.2 per cent from 0.3 per cent.

Growth from the fourth quarter of 2003 was just 1.5 per cent, the slowest annual rate since April-June 2001.

"A weak number is obviously going to make a rate rise less likely but the bank in its statement said that it's focused on capacity pressures and particularly the demand side of the equation," said Macquarie Bank senior economist Roland Randall.

"It may mean that they hold off for April."

Even bank governor Ian Macfarlane had not expected such a slow pace of growth, saying in parliamentary testimony last month that he expected fourth-quarter GDP "will show a growth rate of not much more than 2 per cent" from the same quarter in 2003.

Sluggish exports accounted for much of the slowdown, but business investment was strong."Increasing business investment will boost the economy's productivity capacity, laying the foundations for sustainable economic growth over the medium term," Treasurer Peter Costello said in a statement.

Still, the central bank has expressed concern over potential wage pressures stemming from a tight labour market, even though economic growth is well below the 3.7 per cent average rate in the past 14 years of expansion.

"Over recent months, it has become increasingly clear that remaining spare capacity in the labour and goods markets is becoming rather limited," Macfarlane said.

"This is now starting to result in stronger inflationary pressures."

However, Macfarlane said in his testimony last month that even modest rate rises would have an impact on household budgets.

"The fact that the household sector is carrying so much more debt means that monetary policy is, in some sense, a more powerful weapon and has to be used sparingly and delicately," he said.

The Australian dollar fell over half a US cent on the GDP data to 77.95USc after edging up earlier on the rate rise.

Australia's benchmark rate remains the second-highest among industrialised nations behind New Zealand's 6.5 per cent. Rates in the world's economic powerhouses are United States 2.5 per cent), Europe (2 per cent) and Japan (0 per cent).

- REUTERS