''The recent deterioration in prospects for global growth, together with much more difficult market conditions even for creditworthy borrowers, now present the risk that demand and output could be significantly weaker than earlier expected,'' Reserve Bank governor Glenn Stevens said in an accompanying statement. ''Should that occur, inflation would most likely fall faster than earlier forecast.''

"Overall, my guess remains that the RBA's cash rate is on the way from 7% to 6% to 5% and towards 4%," said Rory Robertson, Macquarie interest-rate strategist, before the RBA announcement. "The RBA seems likely to cut its cash rate all the way back to 4.25% within two years.''

One reason for the steep cuts to come is that clogged credit markets overseas mean that only some of the RBA's rate reductions are likely to be passed on by commercial banks, Mr Robertson said.

More pain to come

Governor Stevens said overseas developments had forced the RBA's hand, with banks globally hoarding funds out of concern about each others' reliability.

''Conditions in international financial markets took a significant turn for the worse in September,'' Mr Stevens said in the statement. ''Large-scale financial failures in several major countries were accompanied by serious dislocation in interbank markets and heightened instability in other markets, including sharp falls in share prices.''

Central banks had pumped funds into money markets to unclog them, and lay a ''foundation for longer-term recovery in the health of balance sheets,'' he said.

''Nonetheless, financing is likely to be difficult around the world for some time ahead. This is also affecting Australia, albeit by less than in many other countries, given the relative strength of the local banking system,'' he said.

Market reaction

Stocks soared after the shock RBA rate cut.

The benchmark S&P/ASX200 share index rallied about 3% on the news, to trade as high as 4652.9 points, or up 2.5% for the day. Earlier, it had followed the global market rout, falling for an eighth day in nine, to be 3.3% lower at one point.

Wall Street and most European markets plunged overnight on growing concerns of a sudden stalling in the global economy.

The Australian dollar, which has plunged more than 10 US cents in the past couple of trading days, initially lurched lower after the shock RBA cut, falling almost 2 US cents. It then recovered slightly to trade recently at 72.36 US cents.

"It was a huge move," said economist Su-Lin Ong. "A very aggressive move."

"It's clearly being driven by a sharp deterioration in financial markets and the risks in global growth," she said.

Commercial banks

Commercial banks announced cuts to their variable home loan rates within minutes of last month's RBA rate move, but the signals this month have suggested consumers and business borrowers are likely to receive only part of today's rate and possibly not for some days, a view reinforced by initial statements from the big four banks.

Prime Minister Kevin Rudd and Treasurer Wayne Swan have both sought to head off some of the criticism of the banks from any delayed rate cuts on their part, saying it is important the country's banks remain as strong as possible during a period of extreme market turmoil that has already claimed some of the largest US and European banks.

Opposition Leader Malcolm Turnbull, however, says that the banks remain highly profitable in a market of shrinking competition and can afford to follow the RBA's rate cuts.

State of the economy

Australia's economy has held up better than most counterparts among rich countries in part because of the strength of the mining boom which has recently delivered the second-highest trade surplus on record and filled state and federal government coffers.

In recent months, though, many of Australia's main trading partners have slipped into recession, while its biggest customer China has also signalled a slowdown in its growth.

The magnitude of the cut makes sense, said Moody's Mr Robinson, as many indicators suggest the local economy is slowing fast.

"There have been a plethora of negative signs emerging," he said, citing housing finance approvals which have fallen for 6 straight months and private sector credit slowing.

Australia's economy grew at 2.7% clip in the year to June, and was expected to have slowed to at least 2.2% by the end of the September quarter just ended, according to BNP Paribas.

"The RBA has taken a pro-active move to insulate the domestic economy from the broader financial crisis,'' Adam Carr, ICAP senior economist.

''I don't expect to see further easing unless the credit crisis fails to improve. So if spreads stay where they are, the RBA will cut by another 25 basis points in November but it all depends on what those interbank lending spreads do," he said.