Nov. 4 (Bloomberg) -- Australia’s central bank Governor Glenn Stevens signaled a surge in the nation’s currency to near parity with the U.S. dollar has given him scope to slow the pace of future interest-rate increases.

Stevens, who yesterday became the first central banker in the world to raise borrowing costs twice in 2009, said the 28 percent gain in the currency this year may hurt exports and cool inflation, allowing him to “gradually” raise borrowing costs. Just last month, he warned it may be “imprudent” to keep rates at “emergency levels.”

The local currency and bond yields fell as traders slashed bets on another quarter-point boost next month, after Stevens raised the overnight cash rate target to 3.5 percent from 3.25 percent. Investors have been driving the Australian dollar toward parity with the greenback, betting China’s economic growth will boost exports from Australia, the biggest shipper of iron ore used in making steel.

Policy makers “are probably glad for the parity talk as it reduces the amount of work they need to do with monetary policy,” said Matthew Johnson, an interest-rate strategist at UBS AG in Sydney. “A December move is a 50-50 proposition.”

Traders are betting there is a 50 percent chance Stevens will increase the key rate by another quarter point on Dec. 1, according to Bloomberg calculations based on interbank futures on the Sydney Futures Exchange at 12:22 p.m. today. Prior to Stevens’s comments, they had a 96 percent bet on such a gain.

Parity Forecast

The Australian dollar fell to as low as 89.17 U.S. cents in Sydney yesterday from 90.88 cents just before the decision was released. It was buying 90.02 cents at 12:50 p.m. today. A year ago, the currency traded at 67.91 cents. The two-year government bond yield dropped 17 basis points to 4.56 percent. A basis point is 0.01 percentage point.

Citigroup Inc., Calyon, Barclays Capital and National Australia Bank Ltd. forecast the Australian currency will trade at 1 U.S. dollar next year, implying an additional 11 percent gain. Hedge funds and other large traders last month had more bets than at any time since July 15, 2008, that the rally will continue, data from the Washington-based Commodity Futures Trading Commission show.

David Forrester, a currency economist with Barclays Capital in Singapore, today said he expects the Australian dollar to test parity with the U.S. dollar next year.

“The Reserve Bank will get the policy rate to 5.5 percent by the end of 2010,” widening the rate differential with other central banks, Forrester said. “It’s just going to be more gradual going forward.”

Global Rates

Australia’s benchmark rate of 3.5 percent contrasts with the U.S. Federal Reserve’s rate of close to zero. The European Central Bank and Bank of England benchmark rates are at record lows of 1 percent and 0.5 percent respectively. The Bank of Japan’s rate is also close to zero.

The “rise in the exchange rate is likely to constrain output in the tradeables sector and dampen price pressures,” the governor said yesterday.

Steven’s statement contrasts with comments last month that suggested he was prepared to keep aggressively raising borrowing costs and tolerate further appreciation in the local dollar, the best-performing in the past 12 months of 171 currencies tracked by Bloomberg, as it “may help contain inflation.”

The central bank’s measure of core inflation, the so-called weighted median index of consumer prices, rose 3.8 percent in the third quarter from a year earlier, holding above the top of Stevens’s target range of between 2 percent and 3 percent for a ninth straight quarter, a report showed on Oct. 28.

‘Code Word’

Now that the risk “of serious economic contraction” in Australia has passed, “the board’s view is that it is prudent to lessen gradually the degree of monetary policy stimulus,” Stevens said yesterday.

“The word ‘gradually’ is code for hiking regularly by a quarter point, but not at every meeting,” said Rory Robertson, an economist at Macquarie Group Ltd. in Sydney. The central bank aims “to edge up its policy rate to more normal levels, while doing as little damage to the economy as possible.”

Prime Minister Kevin Rudd’s government said on Nov. 2 the economy will expand faster than previously forecast, growing 1.5 percent in the 12 months to June 30, 2010, driven by demand from China for Australia’s resources, and rising consumer confidence. In May, Treasurer Wayne Swan forecast a 0.5 percent contraction. GDP will accelerate to 2.75 percent the following fiscal year, he said. The economy grew 1 percent in the first six months of this year.

Stevens’s statement yesterday also dropped references, made in the minutes of the bank’s October meeting, that the “very expansionary setting” of monetary policy was “possibly imprudent.”

Mortgage Costs

Fourteen of 17 economists surveyed by Bloomberg News after yesterday’s decision said Stevens will follow next month with another quarter-point move. Three expect no change.

Yesterday’s rate boost will add A$50 ($45) to monthly repayments on an average A$300,000 home loan. Australia & New Zealand Banking Group Ltd., Commonwealth Bank of Australia, National Australia and Westpac Banking Corp. raised their variable mortgage rates by a quarter point.

“This decision is a tough one for Australian families and businesses, but it’s also another indication that rates could not stay at 50-year emergency lows forever,” Treasurer Swan told reporters in Brisbane.

Reports published in recent days show bank lending unexpectedly fell in September for the first time in nine months amid weaker demand for business credit, and manufacturing growth slowed in October.

Retail Sales

Retail sales fell 0.2 percent in September from August, when they gained 0.7 percent, a report showed today. Consumer spending makes up 60 percent of the economy.

“It looks like the Reserve Bank is doing the right thing,” billionaire Gerry Harvey, chairman of Australian retailer Harvey Norman Holdings Ltd., said in an interview yesterday.

“Those people who are looking at interest rates at 3.5 percent are saying to themselves it’s still low and my mortgage is still a lot less than I was paying before” Harvey said by telephone. “It shouldn’t have a great effect in the marketplace.”

To contact the reporter for this story: Jacob Greber in Sydney at jgreber@bloomberg.net

Last Updated: November 3, 2009 20:56 EST