Floods take toll on rates

Economists predict the floods will knock around one per cent off the Australian economy in the December and March quarters. However, rebuilding should see at least half of this recouped by year’s end.

Given the extent of the flooding, damage to public infrastructure such as roads, railways, bridges, electricity and water supply could easily top $10 billion.

In February, the Queensland roads minister Craig Wallace estimated the damage to state controlled roads would top $1.5 billion.

However, the state controls just 20 per cent of Queensland roads and so the total damage bill could be well in excess of this. The total bill for damage could, in fact, exceed $15 billion.

AMP chief economist Shane Oliver said the Reserve Bank (RBA) will keep rates on hold while the total cost of the damage is calculated.

In the short term, the RBA is expected to focus more on the negative impact on economic growth and the pressure this will take off productive capacity in the economy.

However, by mid-year, inflation is expected to be at least 0.5 per cent higher due to increases in the cost of fruit, vegetables, cereals and bread.

Rebuilding and reconstruction should also be well underway by mid-year, which could force the RBA to resume lifting rates, so as to avoid overheating in the economy.

“Rebuilding and reconstruction will start to provide a boost to economic activity from the June quarter,” Mr Oliver says. “The Reserve Bank understands this and will combat this growth by lifting rates in either May or June.”

So, while lack of economic growth may be a concern in the near term, from mid-year onward there is a risk that the economy will start to overheat as reconstruction following the floods and a boost in replacement spending by consumers combine with a surge in mining investment.

This will lead the RBA to resume tightening by Q3, and many economists are predicting the cash rate will hit 5.5 per cent by year’s end.