Australia Increases Key Rate to 11-Year High of 6.5%

Australia Increases Key Rate to 11-Year High of 6.5%

http://www.bloomberg.com/apps/news?pid=20601087&sid=aUdNM4lkINsk&refer=home

By Victoria Batchelor and Gemma Daley


Aug. 8 (Bloomberg) -- Australia's central bank raised its benchmark interest rate a quarter point to the highest in almost 11 years. The increase may undermine Prime Minister John Howard's campaign to win a fifth term in office this year.

Governor Glenn Stevens raised the overnight cash rate target to 6.5 percent today in Sydney, the first adjustment since November, to curb an inflation rate running faster than he forecast and cool the biggest surge in lending since 1989.

The increase leaves consumers facing the highest borrowing costs since Howard came to power in 1996. Already behind in opinion polls, Howard will find it harder to maintain his argument that mortgage rates will always be lower under the Liberal-National coalition government than the opposition Labor Party.

``The government can hardly campaign on its interest-rate credentials,'' said John Edwards, chief economist at HSBC Bank Australia Ltd. in Sydney. ``This will keep it off balance.'' Edwards was the key economics adviser to Paul Keating's Labor government from 1991 to 1994.

Twenty-six of 28 economists surveyed by Bloomberg News expected today's rate move.

The Australian dollar rose to 85.64 U.S. cents at 11:14 a.m. in Sydney from 85.51 cents just before the decision was released. The yield on the 10-year bond rose 3 basis points to 6.02 percent.

``The high CPI outcome for the June quarter indicated a less favorable near-term outlook,'' Stevens said today in a statement. ``Demand for finance has strengthened.''

Consumer prices climbed 2.1 percent in the quarter from a year earlier, more than the central bank's May forecast of 1.75 percent.

Global Turmoil

Stevens said the world financial market ructions haven't ``significantly'' changed the economic growth outlook. Stock markets have slumped the past three weeks on concern the fallout from the U.S. subprime mortgage rout will spread.

The Federal Reserve yesterday left its key rate at 5.25 percent, saying the U.S. economic expansion won't be undone by market turmoil. The Fed said inflation remains its main concern.

Central banks globally are battling to curb inflation as booming world economic growth forces up food and commodity prices. England, Canada, New Zealand and South Korea all increased interest rates in the past month. European Central Bank President Jean- Claude Trichet said last week he may raise his benchmark rate from 4 percent next month to keep prices stable.

Australia's fifth rate increase since the last federal election in 2004 may crimp confidence and spending as it lowers borrowers' disposable incomes. That could damage the popularity of 68-year-old Howard in his battle with his younger Labor opponent, Kevin Rudd, 49.

Homebuyers Hurt

``This decision will hurt some homebuyers and we're very conscious of that,'' Howard said in Canberra, where he and Treasurer Peter Costello called a rare dual press conference. ``Today's rise is caused by a number of factors. I accept that I will be criticized.''

An election must be called by January, though is likely this year to avoid making voters go to the polls over the Christmas-New year holidays.

Today's move will cost borrowers an extra A$40 ($34) a month on the average A$235,000 mortgage, according to the Canberra-based Housing Industry Association.

The average household's debt-to-income ratio has more than doubled to 158 percent in the past decade. About 23 percent of home owners have had to cut spending to pay their mortgage, according to a Fujitsu and JPMorgan Chase & Co. survey.

Voter support for Labor is at 56 percent, ahead of the government on 44 percent, according to a poll of 1,201 people taken last weekend and published in the Australian newspaper yesterday.

Consumers Buoyant

``This increase comes after a long period of economic growth. Things are very buoyant in consumer spending,'' Keith Perkin, chief executive officer of Retravision Pty, which has 480 electronics stores, said in an interview. ``I don't think one rate rise will have a big impact on the government's credibility, but if there are two or three before the election, it's a different story.''

Retail sales surged 1.4 percent in June, the largest increase in two years. Credit provided to households and companies jumped 1.8 percent, the biggest gain in 18 years.

``The outlook for inflation has deteriorated substantially,'' said Stephen Walters, chief economist at JPMorgan in Sydney. ``The door is open for another rate increase later this year.''

The International Monetary Fund has downplayed the threat of a U.S. credit crunch crippling the world economy. The fund raised its global growth forecast to 5.2 percent for 2007 and 2008, from its previous prediction of 4.9 percent for both years.

Australia's S&P/ASX 200 index has dropped almost 6 percent from its July 24 record. Macquarie Bank Ltd., the nation's largest securities firm, said last week investors in some of its funds may lose as much as 25 percent of their money.

Central banks welcome ``the market correction as it shows investors are becoming more realistic about risk,'' said Tony Pearson, head of Australian economics at Australia & New Zealand Banking Group Ltd. in Melbourne.