Further rate cuts to prop up business confidence, survey reveals

Businesses are confident activity will increase in the short-term partly due to speculation over interest rates cuts, the latest NAB business survey reveals, although conditions have remained poor.

The finding comes as economists changed their tune late last week after the Reserve Bank slashed the official interest rate by 50 basis points, suggesting even more cuts will be needed to get the economy going again – as many as three by the end of the year.

ANZ economist Ivan Colhoun said last week the bank predicts the RBA will cut interest rates by 25 basis points in June, August and November, which would leave them at just 3%.

Colhoun said in a statement there is a divergence between confidence and potential activity in the economy, and that the correct response to a situation where inflation is low, and growth only around trend, “would seem to be to act more aggressively either in size or in timing”.

“As a consequence, we are changing our interest rate call to cuts of 25 basis points in June and August, and a further 25 basis points cut in November. These forecasts do not include any discount for potential European problems/further dislocation in funding markets.”

Westpac has also amended its forecasts, saying in a statement last week that due to the 50 basis point cut being above expectations, and in conjunction with the “broadly weaker tone of recent domestic data”, the bank now expects rates to drop another 50 points.

CommSec has also predicted another cut of 25 basis points for August, saying last week’s move was “courageous”.

The speculation over interest rate cuts is one reason why businesses seemed so confident in the April business survey, NAB said, although it was taken before last week’s 50 basis point cut.

“Part of the improvement in sentiment may reflect increased speculation of further rate cuts after official data confirmed that underlying inflation remained subdued in the March quarter,” it said.

However, conditions have fallen, according to the survey, due to poorer results in the profitability and trading conditions indexes, although employment conditions have improved.

“That may well mean that employment growth will weaken further in the face of poorer activity outcomes,” NAB said.

Forward indicators of demand have also remained weak, with capacity utilisation falling to its lowest level since 2009. Conditions fell across all industries, except in mining and retail, while demand for credit also continued to weaken.

“Labour costs growth ticked up in April, which was consistent with the slight improvement in employment conditions, while purchase costs growth picked up modestly,” NAB said.

“However, product prices growth was unchanged and very subdued, suggesting that overall margins had been squeezed in the month.”