Interest rates are now on hold for at least another quarter, pushing the most logical date for a Reserve Bank decision back to the Melbourne Cup meeting on the first Tuesday in November.

That's after the central bank board left rates unchanged at yesterday's board meeting.

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The November 1 meeting will have the September quarter inflation data (out the week before) and more time to see if the economic strains in the US, Europe and some parts of Asia have eased.

In fact a sharp rise in interest rates on Spanish and Italian government debt overnight sent markets lower around the globe and sparked new fears of another big eurozone crisis.

If that happens, or if either italy or Spain become the focus for pressure for sharp cuts and a possible new bailout, then interest rates here won't rise for some time.

The eurozone problems were a factor in yesterday's RBA meeting. Continuing pressure on Spain and/or Italy will make sure the problem remains a key factor for the RBA board every month.

Yesterday's post-meeting statement from Governor Glenn Stevens made it clear a rate rise was discussed, but put on hold.

And without quite saying so, the RBA has now made the health of the non-mining sectors of the economy as much weight in its thinking as inflation.

So the domestic economy will be a primary focus for the next quarter or so while it waits to see if there's a rebound from the damage done to domestic demand by the higher value of the dollar, the sharp contraction in the first quarter caused by the Queensland floods, deleveraging and increased savings by consumers, weak domestic demand, especially in housing and retailing, and falling confidence levels.

The weak building approvals figures for June, the June quarter and the year to June underlined that sluggishness, as did a 1.9% fall in capital city house prices in the 2011 financial year, as measured by the Australian Bureau of Statistics (see separate story).

Today we get both sides of the strange economy underlined with retail sales for June, the June quarter and the year to June, which are expected to again be weak and the June monthly trade figures and the preliminary data for the 2011 financial year, which are both expected to be strong.

And while the RBA is still saying inflation is higher than comfortable, the bank is now wondering just what is going on in the non-mining sectors of the economy.

"Year-ended CPI inflation has been high, affected by the extreme weather events earlier in the year, Governor Glenn Stevens said in the post-meeting statement issued yesterday.

"As these effects reverse over the next couple of quarters, CPI inflation should decline.

"But measures that give a better indication of the trend in inflation have begun to rise over the past six months, after declining for the previous two years.

"While they have, to date, remained consistent with the 2-3 per cent target on a year-ended basis, the Board remains concerned about the medium-term outlook for inflation."

So with those comments a rate rise would have been an odds-on special.

But for the first time these thoughts appeared in Mr Stevens statement:

"It is appropriate under such circumstances for monetary policy to exert a degree of restraint.

"Most financial indicators suggest that it has been doing so, as a result of the Board's decisions last year.

"Credit growth has declined over recent months and is very subdued by historical standards, even with evidence of greater willingness to lend.

"Most asset prices, including housing prices, have also softened over recent months.

"The exchange rate is high. Each of these variables is affected by other factors as well, but together they point to financial conditions being tighter than normal."

That's an admission from the bank that it now understands that the non-mining sectors of the economy are suffering at the moment.

It made it clear a rate rise was discussed yesterday and that the decision not to go for an increase to 5.0% was a close run thing.

"At today's meeting, the Board considered whether the recent information warranted further policy tightening.

"On balance, the Board judged that it was prudent to maintain the current setting of monetary policy, particularly in view of the acute sense of uncertainty in global financial markets over recent weeks.

"In future meetings, the Board will continue to assess carefully the evolving outlook for growth and inflation."

So there we have it, the financial instability in the US, Europe and parts of Asia, the quite sharp slowdown in manufacturing across the world in the past month or so, and the very weak level of activity in the American economy in particular, were major reasons why the bank withheld a rate rise.

And that uncertain state of the domestic economy was the other major reason.

It seems there was a feeling that a rate rise might not have been the cleverest move against all that international uncertainty and the recession-like levels of activity in some sections of the non-mining economy in this country.

All this should be explained on Friday when the RBA releases the third Statement of Monetary Policy for 2011.

It will contain new forecasts for growth and inflation for this year and 2012 and 2013.

And the new financial year has seen a 0.9% fall in the Australian dollar value of commodity prices, thanks to the surge in the currency late last week as the US tooed and frooed about the debt ceiling and spending cuts.

The Reserve Bank said yesterday:

"Preliminary estimates for July indicate that the index rose by 0.9 per cent (on a monthly average basis) in SDR terms, after rising by 1.7 per cent in June (revised).

"The largest contributors to the rise in July were increases in the price of gold and the estimated export price of thermal coal.

"Prices for most of the base metals also rose, while wheat and cotton prices fell. In Australian dollar terms, the index fell by 0.9 per cent in July.

"Over the past year, the index has risen by 28 per cent in SDR terms.

"Much of this rise has been due to increases in iron ore, coking coal and thermal coal export prices.

"With the appreciation of the exchange rate over the year, the index rose by 10 per cent in Australian dollar terms."

(SDRs are Special Drawing Rights which are a sort of international currency for central banks designed to take a lot of the volatility out of currency values).

Copyright Australasian Investment Review.
AIR publishes a weekly magazine. Subscriptions are free at www.aireview.com.au

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