The chances of keeping Australia's inflation rate low over the medium term are good as the highest borrowing costs in 12 years cool the economy, Reserve Bank Governor Glenn Stevens said.
“This outlook does involve a period of significantly slower growth in demand in Australia,'' Stevens said in a speech to economists in Sydney today. “But controlling inflation has always involved being prepared to slow'' the economy, he said.
The Australian dollar and bond yields fell as Stevens' comments reinforced speculation he won't raise interest rates again following four increases since last August that boosted the benchmark to 7.25 percent. The economy grew at the weakest pace in almost two years in the first quarter as consumers cut spending to pay higher mortgage, fuel and food costs.
“Stevens is growing more confident the central bank's done enough to slow the economy and damp inflation,'' said Peter Jolly, head of research of National Australia Bank Ltd. in Sydney. “The bank has finished its series of interest-rate increases and is on hold for the rest of this year.''
The Australian dollar traded at 97.96 U.S. cents at 1:34 p.m. in Sydney from 98.08 cents before the speech was released. The two-year government bond yield fell 3 basis points, or 0.03 percentage point, to 6.53 percent.
“I think our chances of keeping inflation low over the medium term are good,'' Stevens said.
Stevens said the central bank remains committed to its goal of keeping inflation between 2 percent to 3 percent on average, even if annual price gains remain above that threshold for “a pretty long period.''
“We are of course fully aware of the possibility that people may fear that this temporary period of high inflation could, in fact, turn out to be persistent,'' he said.
Australia's annual consumer price index “might rise further before it starts to come down'' after gasoline costs surged above what the bank forecast in May, the governor said.
Annual core inflation accelerated to 4.4 percent in the first quarter, the fastest pace in almost 17 years. The government is due to publish second-quarter figures on July 23.
“We still expect inflation to fall back to 3 percent by mid-2010, and to continue declining gradually thereafter,'' Stevens said payday loans.
There is “pretty clear evidence'' that rising gasoline prices and higher borrowing costs are forcing consumers and businesses to cut spending, the governor said, adding “the extent of that slowing, and its duration, are uncertain.''
Consumer confidence slumped to the lowest level in 16 years in July, businesses were the most pessimistic since 2001 in June and home-loan approvals fell by the most in eight years in May, reports last week showed.
“It looks more likely now than it did a couple of months ago that this more moderate track for demand will continue,'' Stevens said. That will “in due course begin to exert downward'' pressure on inflation, he said.
Stevens suggested that the bank is comfortable with its forecast, made in May, that inflation will remain above the ceiling of its target range until the middle of 2010.
“If the May 2008 forecasts turn out to be right, then the current episode would entail nine quarters with year-ended inflation above 3 percent,'' he said.
Such an outcome “would still be consistent in every essential respect with the experience under inflation targeting since it began 15 years or so ago.''
Today's comments echo minutes of the bank's July 1 policy meeting, published yesterday, which said interest rates are “exerting the appropriate degree of restraint'' on the economy, which has been expanding for 17 years.
Stevens said inflation is unlikely to be driven higher by wage growth, which has “to date been pretty well controlled.''
A record boom in the jobs market, which saw the unemployment rate fall to a three-decade low of 3.9 percent, ended in May when employers cut workers for the first time in 18 months. The jobless rate was 4.2 percent in June, a report showed last week.
“If the recent signs of moderation in demand for labor continue, which could be expected if overall demand remains on a slower track, that should help to contain any over-exuberance in wage setting,'' Stevens said.