THE WEEK AHEAD: Calling for calm

Years ago, if someone became overly worked up about something, they were told to “take a Bex and have a good lie down”. Today Bex is not the painkiller of choice for Australians, but the adage is as appropriate today as it was back then.

Take interest rates. Some have suggested that the Reserve Bank lifted interest rates because the Reserve Bank was concerned about an inflation problem. The evidence? The fact that the Reserve Bank noted that inflation was likely to hold in the upper half of its 2-3% target band in coming months, rather than ease to 2.5%.

In practice, this means that, rather than inflation printing at 0.6% a quarter or thereabouts, it may be close to 0.7%. Most of us can work out the difference here and it doesn’t sound like a major issue. And note that annual inflation at retail outlets was just 0.5% in the March quarter – the lowest level in five years.

And then there are the suggestions from some quarters that people could lose their homes following the latest quarter percent rate hike. Really? Banks that originally granted the loans would have stress-tested borrower finances to absorb rate hikes totalling two percentage points.

Now if borrowers are worried about their home loan repayments, the best advice would be to consider fixing some or all their loan. At present the difference between the variable home loan rate and either 2-year or 3-year fixed rate loans is hardly exorbitant.

Then there is the Government’s response to the Henry Tax Review. None of the changes take effect for at least two years. To say that much can happen in that time borders on the under-statement. Some may remember something called the Carbon Pollution Reduction Scheme that is no longer with us.

And then there is Greece. The panic response by global investors over the past week has largely been driven by fear. Last weekend the EU and IMF agreed on a bailout package for Greece and the Greek Government agreed to employ austerity measures. Investors were initially comforted. Then the Wall Street Journal speculated that the bailout funds would be insufficient, Greek protestors took to the streets, and all of a sudden contagion fears took hold.

The situation will be resolved when Greek unions stop their opposition to austerity measures and vow to work to get the economy back on its feet. The UK was forced to go to the IMF in the mid-1970s. A year after taking the emergency funds, the UK economy was back on the recovery road.

The week ahead

Over the past few years the Federal Budget has been largely ignored by financial markets and investors alike. But not this year. This year the hope is that the Government is disciplined in cutting expenses and removing stimulus from the economy, thus giving the Reserve Bank confidence to move to the monetary policy sidelines.

The Federal Budget is handed down at 7.30pm AEST on Tuesday night. Why at night? Yes, it makes little sense, but the main reason is that it is outside business hours. So if there are major tax changes, no one gets an advantage. But given that we live in a globalised world, it makes less sense to release a budget at that time. And again it makes little sense to exclude economists from the media lock up.

Apart from the Budget there is a constant flow of economic data over the week. On Monday the ANZ job advertisement series is released together with tourist arrivals and departures and the NAB business survey. Housing finance is slated for Wednesday together with the latest credit/debit card lending figures from the Reserve Bank. And the April jobs report is issued on Thursday while Reserve Bank Assistant Governor Philip Lowe also delivers a speech the same day.

The economic data is likely to provide mixed signals. The tourism figures will confirm that more Aussies are travelling overseas for holidays than foreigners coming to our shores. And the number of home loans probably fell another 3% in March.

But on the other side of the coin, the business survey is unlikely to be too gloomy – especially given that it was taken before the Henry Review response and before the latest rate hike. And the jobs data is also likely to be pretty positive.

We expect that employment rose by around 18,000 in April, and with the participation rate assumed to have remained unchanged, that means the unemployment rate will hold around the 5.3-5.4% level. Federal Treasury assumes that full employment is around 5.0%, so the job market is clearly in good shape.

In terms of guidance from overseas, Chinese economic data will dominate attention early in the week before attention shifts to the US late in the week. On Monday, Chinese trade figures will be released together with keenly-awaited figures on property prices. And on Tuesday, China issues data on inflation, production, investment and retail spending.

Investors will need to wait until Friday to assess the next batch of top-shelf US economic data. On Friday, retail sales, industrial production and consumer sentiment figures are all released. And overall the results should be encouraging. US economists expect that both non-auto retail sales and industrial production recorded 0.5% gains in April while the index of consumer sentiment may have lifted from 72.2 to 73.2 in May. While some investors are still worried about the prospect of a ‘double dip’ recession in the US, it is far more likely in Europe.

Other US data to watch over the week include international trade and the monthly Federal Budget on Wednesday while data on import and export prices is issued on Thursday and business inventories is slated for Friday.

Sharemarket

The past week has seen a return to the ‘bad old days’ – that is the period in late 2008/early 2009 when speculation, fear and innuendo drove global sharemarkets. In Australia the fear relates to resource stocks and the potential hit to profitability from the Resource Super Profits Tax. Of course it is all about fear and uncertainty – details of the profits tax aren’t known, it still needs to be approved by Parliament and the tax doesn’t apply for another two years.

In terms of global markets, investors have been reacting to media speculation on the EDC – European debt crisis – rather than real news such as good US economic data. The media, global investment banks and hedge funds have a degree of responsibility in their influence on markets. This won’t be lost on politicians around the globe, closely examining re-regulation issues.

In Australia over the coming week Incitec Pivot releases half year results on Monday while CSR releases annual results on Wednesday and CBA releases a trading update on the same day. Tiger Airways issues annual results on Thursday.

Interest rates, currencies & commodities

When the Reserve Bank lifts rates, the perennial question is whether it is useful to stick with variable rate home loans or switch some, or all of it, to fixed rates. Given that rates have already risen by 150 basis points, most may think that the decision is a no-brainer – that is, you should stick with a variable rate loan. But the decision is by no means clear cut because borrowers need to look ahead rather than in the rear-view window.

On average, the variable housing rate stands at 7.40%. But many banks offer two-year fixed home loans for around 7.50% and three-year rates are near 7.90%. The latest survey of economists points to cash rates rising another 50 basis points by end year and by around 150 basis points by the end of 2011. Of course the longer the predictions, the greater the degree of risk. But anyone who needs certainty about their future home loan repayments would be right to consider the fixed rate deals on offer.

Craig James is chief economist at CommSec.