By Jacob Greber Feb. 5 (Bloomberg) -- Australia’s central bank said economic growth will continue to accelerate this year even if policy makers are forced to raise the benchmark interest rate by another three quarters of a percentage point. The economy will be growing at an annual pace of 3.25 percent in the three months through December 2010, up from 2 percent last quarter, the bank said today in Sydney. Officials based their forecast on an assumption that the overnight cash rate target will climb to 4.5 percent this year, in line with market estimates. Reserve Bank Governor Glenn Stevens unexpectedly kept borrowing costs unchanged this week, saying information about the impact of the bank’s record three increases last quarter “is still limited.” A report this week showed retail sales unexpectedly fell in December for the first time in five months and stock markets tumbled today amid increasing concern that the global recovery may falter. “They are uncertain and waiting for more information,” said Su-Lin Ong, senior economist at RBC Capital Markets Ltd. in Sydney. “It looks like they need greater justification to tighten further. They need to see a broadening in global growth.” The Australian dollar traded at 86.57 U.S. cents at 12:37 p.m. in Sydney from 86.90 cents before the statement was released. The two-year government bond yield fell 4 basis points to 4.05 percent. A basis point is 0.01 percentage point. Stocks Fall Australia’s S&P/ASX 200 Index dropped 2.8 percent to 4,493.40 at 12:05 p.m. in Sydney, setting the benchmark gauge on course for its lowest close in five months. While interest rates are “no longer at exceptionally low levels,” it is “likely” that borrowing costs will be increased further over time to ensure inflation stays within Stevens’s target range of between 2 percent and 3 percent, the bank said in its quarterly monetary policy statement. Stevens became the first central banker in the world to raise borrowing costs three times last year after Australia’s economy skirted the global recession, helped by A$20 billion ($17 billion) in cash handouts to consumers from Prime Minister Kevin Rudd and another A$22 billion in spending on roads, railways and schools. U.S., Europe By contrast, officials in the U.S., the U.K. and Europe have kept their benchmark lending rates at historic lows, partly on concern that recoveries in their economies will be hampered by high unemployment and weak consumer sentiment. Australia’s economy will expand 2.5 percent in the June quarter of 2010 from a year earlier, and 3.5 percent in the year through June 30, 2011. Three months ago, the bank predicted growth rates of 2.25 percent and 3.25 percent respectively. Core inflation will cool this year to an annual pace of 2.5 percent from 3.25 percent, before accelerating again to 2.75 percent in 2011. The bank said those forecasts are based on the “technical assumption” of an increase in the cash rate, “with the assumed path broadly consistent with market expectations as the statement was finalized.” Money market yields continue to reflect expectations for “further tightening, though at a slightly slower pace” than anticipated three months ago. “The cash rate is expected to reach around 4.5 percent by the end of the year,” today’s statement said. “They’re being a little more specific and open about” their assumptions about future interest rates, said David de Garis, a senior economist at National Australia Bank Ltd. in Sydney. “They were probably always assuming something similar to the market.” Rate Bets Traders are betting there is only an 18 percent chance of a quarter-point increase in the overnight cash rate target when policy makers meet on March 2, according to Bloomberg calculations based on interbank futures on the Sydney Futures Exchange at 12:33 p.m. Today’s forecasts “represent a modest upward revision” to figures released in November, “with recent data suggesting that the economy starts the current upswing in activity with somewhat less spare capacity than earlier thought likely,” today’s statement said. “It now looks likely that the unemployment rate has peaked at around 5.75 percent, a much better outcome than thought likely early last year,” when the government forecast the jobless rate would peak at 8.5 percent this year. Australia’s unemployment rate dropped in December to an eight-month low of 5.5 percent after employers added 135,700 jobs between September and the end of 2009, the biggest four- month surge in hiring in more than three years. Energy Demand Increased demand for workers is being stoked by a surge in investment by companies such as Chevron Corp., which is expanding its Gorgon liquefied natural gas venture in Western Australia to meeting rising demand from Asia for energy. “Mining investment is expected to increase further from its already very high level,” today’s statement said. Exports of resources will “grow strongly, reflecting capacity increases resulting from the high level of mining investment over recent years. “However, growth outside of the mining sector is expected to be only modest, reflecting the reallocation of productive resources within the economy.” This is partly due to the surge in Australia’s currency, “which has reduced the international competitiveness of import- competing and exporting sectors, including the manufacturing and tourism sectors,” the bank said. Household Spending While increased hiring and an annual 13.6 percent surge in house prices last quarter have helped stoke consumer confidence, which jumped in January by the most in six months, “households are still taking a more cautious approach to their spending than was the case a few years ago,” today’s statement said. One risk to today’s forecasts is whether the nation’s recent economic performance was prompted by a “bring-forward” of spending by consumers and businesses amid last year’s earlier interest-rate cuts and government spending, the bank said. “If so, underlying growth would be soft into 2010 as the effects of the temporary stimulus fade,” the bank said. This may be offset by “the improvement in the outlook in the resources sector” which is “clearly not due to temporary policy factors.” There are also questions about the durability of recent growth in the world’s largest economies, which have been boosted by temporary fiscal measures and the restocking of inventories by companies, today’s statement said. “For a sustained recovery to take hold, a substantially stronger pick-up in private demand than has been evident to date will be required,” the bank said. “Many of these countries also face very significant fiscal challenges that will need to be addressed over time.” To contact the reporter for this story: Jacob Greber in Sydney at jgreber@bloomberg.net

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