The Reserve Bank of Australia left interest rates on hold when it met on Tuesday, but that mightn't last much longer.
According to the ASX's RBA Rate Indicator, market participants are pricing in a 33% chance of an official interest rate cut when the board meets in May. By contrast, the market had given a likelihood of between 4% and 7% of an April interest rate cut leading into yesterday's meeting, highlighting the evolving expectations.
Indeed, interest rates are currently sitting at just 2%, and have been since May 2015. Although that is one of the lowest cash rates in Australia's history, it is still considerably higher than the cash rates maintained by various other countries around the world, including Japan whose cash rate has plunged into negative territory.
A growing number of economists believe the cash rate will slip to 1.75% in May. Meanwhile, some are suggesting there will be another cut sometime before the end of the year, which could see that rate fall to just 1.5%.
One of the primary reasons behind these expectations is the recent strength behind the Australian dollar, which has surged 10.6% since mid-January. It's currently fetching US75.5 cents, well above the RBA's unofficial comfort level which is believed to be around US65 cents.
Given that the United States is now expected to increase interest rates at a slower pace than first thought, some of the glamour has been taken out of the US greenback. The weaker US greenback is thus having a positive effect on the Australian dollar given our comparatively higher interest rates. So, to solve that problem and to drive the growth of our own economy, it is believed the RBA will need to reduce interest rates – especially if the dollar does continue to rise.
Of course, lower interest rates does raise the issue of how individuals can boost their incomes. After all, many are already relying on pitiful returns from their savings accounts, and that would likely become even more dismal if interest rates do fall again.
Thankfully, the share prices of some of Australia's best dividend-paying shares have also fallen considerably over the last 12 months, not only lowering the cost of shares but also improving the dividend yields on offer. Telstra Corporation Ltd (ASX: TLS), for instance, has fallen almost 20% from its peak and now offers a 5.9% fully franked dividend yield, while Wesfarmers Ltd (ASX: WES) also offers a 5.1% fully franked dividend yield.
