THE Reserve Bank has spelt out the conditions under which it would cut interest rates at its next meeting on Melbourne Cup Tuesday.
Board minutes released yesterday show central bank economists have scaled back their estimate of underlying inflation from 2.5 per cent to 2.75 per cent, near the top of their 2 per cent to 3 per cent target band, to 2.25 per cent to 2.5 per cent.
If the Reserve can tell ''a credible story'' about how inflation is set to stay at about 2.5 per cent, it will cut its cash rate 0.25 points.
The cut would be presented as a technical adjustment to a changed inflation outlook rather than as a response to a weak economy. It would be described as a ''one-off'' - moving settings from mildly restrictive to neutral - rather than as the first of a series of cuts.
A cut in the cash rate from 4.75 per cent to 4.5 per cent would cut the typical variable mortgage rate from 7.8 per cent to 7.55 per cent, slicing $49 off the monthly cost of servicing a $300,000 mortgage in the lead-up to Christmas.
Futures markets expect the Reserve to go further, cutting rates three times by February.
Traders late yesterday lifted the implied probability of a Melbourne Cup day rate cut from 64 per cent to 70 per cent.
But the Reserve will not make the cut at all unless it is convinced it can credibly say inflation will remain contained. Helping it will be updated information on spending patterns obtained by the Bureau of Statistics that makes inflation look "less concerning" and reports from its business liaison program that outside the mining sector wage pressure is easing.
The Reserve will need both a benign inflation outcome in the September quarter figures to be released next Wednesday and a set of believable forecasts for continued benign outcomes.
If decided on by the board the cut would be the first since the global financial crisis. It would also be the first one-off cut not clustered with others since December 1998.
While the Reserve Bank believes the non-mining economy is subdued, it expects it to pick up. It is particularly sceptical of the official employment figures that show weak or negative jobs growth, noting that at the same time job vacancies are increasing and the number of people on unemployment benefits is falling.
"The bank is considering a cautious policy tweaking rather than an interest rate slashing," ANZ senior economist Craig Michaels said. "It looks like an insurance rate cut rather than a string of them."
Access Economics forecasts due for release this morning have interest rates falling just once between now and March and not falling further. While Access does not think there will be a new global financial crisis, it does think the risk has increased.
"If there is one, we would look to the Reserve Bank to do more than it did in the last crisis and for the government to do less,'' Access director Chris Richardson writes. ''But 'doing less' is not 'doing nothing'. For all the unpopularity of the recent stimulus spending, it did its job very well."
Chinese figures released yesterday show economic growth moderating from an annual 9.5 per cent to 9.1 per cent.
"It remains strong," HSBC economist Qu Hongbin said. "Sluggish Western economies will weigh on exports, but the domestic economy is supported [by] strong retail sales growth, rising continuing infrastructure investment and accelerated public housing construction."