The Reserve Bank of Australia (RBA) reduced is base interest by 50 basis points to the lowest level in 2 years (3.75 percent).  Markets were expecting no change in policy at this month’s meeting but the large rate reduction was based on the lower levels in consumer inflation and the total effect was a drop in the Australian Dollar and in regional bond yields.

Normally, when rate decreases are seen in G10 economies, changes of 25 basis points are seen.  The 50 basis point cut from the RBA was the first in three years and this choice was taken as a means for reducing borrowing costs.  In the accompanying policy statement, the RBA made is clear that they expect inflation to remain low for the long term (within the central bank’s target of 2 to 3 percent).

This is the first rate cut in Australia this year and it comes before the next government budget proposal will be released next week.  The main goal of the budget will be to end the 4 year long budget deficit by cutting spending in an amount that is equal to roughly 2.5 percent of the country’s yearly GDP.  Another likely reason for the heavy rate cut come from the concern that has been expressed recently over the Australian housing market, which has seen price declines for 5 consecutive quarters.

The AUD/USD dropped into the low 1.03s after the release, which very little bounce.  The 10 year Treasury yield dropped by 14 basis points, to trade just above 3.5 percent but the effect on equity markets was positive, with the ASX 200 seeing gains of 1 percent by the close of the session.

In Asia, the main headline came out of China, as the latest Purchasing Managers Index (PMI) showed expansion for the 5^th consecutive month during April.  Chinese PMI improved to 53.3 (53.1 was seen previously).  This is the highest reading in a year but it was modestly lower than the 53.6 that was expected by analysts.

Ahead today, market volatility will be generated by macro releases, as we will have Eurozone consumer confidence, Housing Prices in the UK and manufacturing data out of the US.  The UK real estate numbers are expected to have fallen from the previous month while the US figures (ISM) are expected to show that factory activity dropped to 53 from the 53.4 reading that was seen in March.  The numbers are expected to show declines but as long as they stay above 50, the reading will continue to show expansion.

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