RBA’s Hard Call: Is 25 Basis Points Too Much or Not Enough?

Today the Reserve Bank of Australia (RBA) dropped the wholesale interest rate by 25 basis points (0.25 percent). The first time the RBA has lowered the official rate in 31 months.

This was a really hard decision for the RBA to make. On the one hand they desperately do not want to do anything that will cause house prices to rise. On the other hand consumer spending in Australia is at its lowest levels in many years and retailers are feeling the pain. In fact retailers have been feeling the pain for over a year with Christmas spending last year being one of the lowest since spending patterns began to be monitored.

So the problem the RBA faced could be summed up a bit like this: How much can we drop the wholesale interest rate by such that people will have a big spend up for Christmas and the retailers can make some money (thereby staying in business and continuing to employ people), but not so much as to cause any upwards pressure on house prices?

It seems the answer they came to was 25 basis points.

For a household with a $350,000 mortgage over 25 years this quarter of a percentage point reduction will reduce the monthly repayment from $2,598 to $2,541 putting about $57 a month back in their pockets. So! Is $57 a month more in their pockets enough to get consumers to spend up big this Christmas as intended? Hmmmm . . .