Central bank signals end to 'emergency'

SYDNEY: The Reserve Bank of Australia will have to raise the benchmark interest rate from its "emergency" level at some stage as the economy rebounds from the global recession, says bank Governor Glenn Stevens.

"There will come a time when the exceptional monetary stimulus in place at present will no longer be needed," Stevens said in his half-yearly testimony to Parliament's economics committee in Sydney yesterday.

"It will then be appropriate for the board to do what it has done on past such occasions, namely to start adjusting interest rates back towards normal levels."

The Australian dollar and bond yields jumped on mounting speculation the central bank may increase borrowing costs before the end of the year.

A more normal level for the overnight cash rate target is "a good deal north" of the current 49-year low of 3 per cent, Stevens said.

"The bank is clearly going to hike rates soon - year end is the most likely time," said Adam Carr, an economist at ICAP Australia.

Stevens points out that "the economy is more resilient than most thought it would be, global growth is levelling out and financial markets have stabilised", he said.

The economy grew 0.4 per cent in the first quarter, rebounding from its first contraction in eight years in the previous three months, as lower borrowing costs and government spending stoked domestic demand.

Stevens said it appears that gross domestic product also expanded in the second quarter.

Australia's currency advanced to an 11 month high yesterday.

The two-year government bond yield rose 8 basis points to 4.53 per cent.

Traders have a more than 90 per cent expectation that the central bank will raise the benchmark rate by half a percentage point before the end of the year, according to interbank futures on the Sydney Futures Exchange.

A month ago, the futures implied the rate would remain unchanged.

"What we've got is an emergency setting" for the benchmark rate that was "put in place in anticipation that the economy would be seriously weak", Stevens said.

"As the set of risks that we think you face start to shift, at some point you have to move away from the emergency setting."

Last week, the central bank scrapped its forecast for the economy to contract this year, instead predicting GDP will expand 0.5 per cent.

The bank expects growth to accelerate to 2.25 per cent next year and 3.75 per cent in 2011.

"On the basis of the information to hand at present, this may well turn out to be one of the shallower recessions Australia has experienced," Stevens said.

Low interest rates risked stoking economic imbalances, he added.

The Reserve Bank board slashed the overnight cash rate target by 4.25 percentage points between September and April.

As well, the Government distributed A$12 billion ($14.9 billion) to households and pledged to spend A$22 billion on roads, ports, railways, schools and hospitals.

Stevens didn't provide a timeframe for when the central bank may begin raising rates. Policy-makers will remove monetary policy stimulus "in a timely fashion and when the time is right", he said.

Stevens declined to identify what policy makers regard as a so-called normal or neutral policy setting, though he said the benchmark rate has averaged in the 5 per cent range for the past 20 years.

- BLOOMBERG