Australia c.bank: gradual rise in rates likely needed

SYDNEY, Nov 6 - Australia's central bank on Friday said interest rates will likely have to be raised gradually over time as it sharply upgraded forecasts of economic growth for next year and pointed to a dwindling pool of spare capacity.

In its quarterly Statement on Monetary Policy, the Reserve Bank of Australia (RBA) also held out the prospect of an almost golden period of prosperity as rapid population growth, rising terms of trade and a boom in resource investment led to years of above-trend growth.

"The Australian economy is operating with less spare capacity than earlier thought likely, and the outlook for the next few years has improved," the bank said in its 76-page round-up of the economy.

"The cash rate remains at a low level, and a further gradual lessening of monetary stimulus is likely to be required over time if the economy evolves broadly as expected," wrote RBA Governor Glenn Stevens.

The central bank lifted its cash rate by 25 basis points to 3.5 percent earlier this week, the second hike in as many months, and financial markets expect a steady drum roll of moves toward 5 percent by the end of next year.

Friday's statement conceded some uncertainty about the global outlook but was otherwise almost unremittingly upbeat about the domestic economy.

In a long list of favourable factors it cited resilient household spending, rising house prices, still stimulative monetary and fiscal policies, a revival in business and housing investment, rapid population growth and a turnaround in the terms of trade thanks to strong demand from China and India.

As a result it more than trebled its forecast for gross domestic product growth for 2009 to 1.75 percent, while raising its estimate for 2010 to 3.25 percent, from 2.25 percent in its August statement.

Growth was seen running at 3.25 percent right through 2011 before accelerating to 3.5 percent in 2012.

Indeed, the central bank included a whole section on the rapid growth of Australia's population and stock of capital which seemed to foreshadow many years of expansion ahead.

"Growth in potential output in the immediate period ahead is likely to be above the standard estimates of recent years," the bank wrote.

The RBA also nudged up its forecasts for underlying inflation, but only modestly, perhaps reflecting its internal expectation for where interest rates might be by then. Underlying inflation was seen declining from an annual 3.5 percent last quarter to 2.25 percent by the end of 2010, a slightly upward revision from 2.0 percent previously. Inflation was then seen travelling at 2.5 percent through 2011 and into 2012, compared to 2 percent in the previous statement. Underlying its optimism on the economy was what it termed a "boom" in resource investment. Again it devoted a separate section to investment in Australia's coal, iron ore and natural gas sectors and concluded the boom could run for years.

"The bank's liaison with mining companies suggests that further significant increases in mining investment and output are likely over the years ahead," the RBA said.

Output of coal and iron could expand by around one third over the next two years if capacity came on stream as expected, with further significant increases possible over the remaining decade.

Liquified natural gas production was only just coming on stream but investment in this sector could increase from around 0.5 percent of GDP currently to around 2.5 percent within the next four to five years. Ultimately, the value of LNG exports could match that of coal and iron ore, the country's two biggest export earners.

Strong demand for Asia for Australia's resource exports also meant the country's terms of trade were expected to rise over the next year or two, a marked improvement from the previous statement in August.