Reserve Bank of Australia (RBA) Governor Glenn Stevens does not expect the Australian economy will fall into recession "any time soon", provided the central bank can contain inflation.

He told parliament's economic committee hearing in Sydney that if the central bank did not contain inflation, the economy would not be able to sustain economic growth.

"I think we will be able to, and if that turns out to be right, then we can sustain growth further into the future, Mr Stevens said.

"Recession? I don't think we are going to have one any time soon.

Mr Stevens also says Australia's next annual consumer price index (CPI) result is likely to be around four per cent.

"Measured by the CPI, the (last) year-ended inflation rate was three per cent but, as is I think well understood, the next figure is likely to be around four per cent," Mr Stevens told the House of Representatives joint standing Committee on economics in Sydney.

"Faced with ... very strong demand growth in what was already a pretty fully employed economy, the Reserve Bank board, when discharging its monetary policy duties, could draw no other conclusion than that growth in demand needed to slow."

Australia responds to US credit crisis

Turning to the fall-out in financial markets due to the credit crunch in the US, Mr Stevens said the RBA board had spent considerable time monitoring market developments and responded to the "unusual demand for liquidity" on a number of occasions.

He said financial market pressures in the domestic market were "overwhelmingly a flow-on of international forces" and not a result of local factors.

"The RBA responded to the unusual demand for liquidity on a number of occasions, and made early changes to its practices for open market operations to accommodate dealing in a wider range of assets and over longer terms," Mr Stevens said.

Australia not immune

But Mr Stevens said Australia's financial system "cannot be entirely insulated from these global events".

"Inevitably, the Australian financial system has been affected to some extent," Mr Stevens said.

Mr Stevens said major banking institutions have been able to provide support for sound borrowers and had "stepped into the gap left by the withdrawal of funding from the capital markets.

He acknowledged the fact wholesale funding costs has been rising by more than the official cash rate, which "has been passed on to end borrowers" and conditions on lending for some borrowers had "tightened in response to higher perceived risk".

"But this outcome is preferable to the alternative of lending drying up," Mr Stevens said.

Money lenders forced to slow down

Mr Stevens said the rise in wholesale cost of term funding means many non-bank and some bank lenders have had to slow the growth of their businesses.

"The closure, more or less, of securitisation markets for the time being also has made life much more difficult for those lenders which relied heavily on that avenue of funding," Mr Stevens said.

"Capital market raisings are much more difficult for some corporates as well, and many of these entities are turning to their bankers."

Mr Stevens said Australia's terms of trade was set to expand by a further 15 per cent over the next year or so, "adding some two to three per cent to national income" thanks to expected higher contract prices for coal and iron ore.

Mr Stevens said the Chinese economy continued to expand due to this demand for natural resources.

But the US economy remained subdued, Mr Stevens said, due to the weakness that had for some time been confined to the housing sector spreading to other areas over recent months.

Japan's economy also remained weak, he said.

Trading partners hit.

He forecast Australia's trading partners "as a group" was likely to record below-average growth in 2008, reflecting weak outcomes in the developed world, and slower but still pretty good growth in Asia.

"The world economy presents some considerable cross-currents for Australia," Mr Stevens said.

"The biggest terms of trade boom for 50 years is coinciding with one of the most serious malfunctions in developed country capital markets for a long time."

Mr Stevens said demand growth in Australia was "now in the process of moderating", given household demand for credit had weakened over recent months and measures of confidence had declined.

"While those measures can provide false signals, our assessment is that a change in trend is occurring, and we are hearing that from businesses we talk to," Mr Stevens said.

"There is at least some evidence that a moderation in demand is occurring.

"That, if it continues, should in due course act to slow prices."

But Mr Stevens gave no indication the central bank was at the end of its tightening cycle, given the extent and persistence of the slowdown was "quite uncertain".

"There remain powerful conflicting forces at work, so we can expect that difficult issues for judgment will remain with us for some time," Mr Stevens said.

RBA to keep rates on hold

He repeated the view at Tuesday's RBA board meeting, which left the official cash rate on hold at 7.25 per cent, that interest rates "for the time being" should remain unchanged.

"The current rate of inflation is clearly uncomfortably high, and were expectations of high ongoing inflation to take root, it would be even more difficult to reduce inflation again," Mr Stevens said.

Mr Stevens said the next round of CPI figures, due April 23, would provide "new insights" about the extent of inflation.

But he said the central bank needed to balance that against the "likely moderation in demand and its effect on inflation over time".

"This will by no means be an easy balance to strike," Mr Stevens said.

Mr Stevens also says the central bank does not consider the non-accelerating inflationary rate of unemployment (NAIRU) when deliberating on monetary policy.

"There isn't a long-run trade-off between inflation and unemployment," he said in response to a question from a student from Newington College in Sydney's inner-western suburbs.

"We don't have a doctrine; it's not a prominent device in setting monetary policy as my predecessor Ian Macfarlane made clear."

Mr Stevens said policymakers in previous decades, who had believed in a non-accelerating inflationary rate of unemployment, would be "confounded" by today's low unemployment rate and relatively stable inflation over the past decade.