The Reserve Bank (RBA) Board has a tough job on its hands when it makes its rate decision next week on Melbourne Cup day.

The RBA must assess global economic conditions, which are still characterised by some uncertainty over Europe and below-par growth in the United States. In assessing the global outlook, the RBA is most interested in economic conditions in Asia, especially China. It is with this region that Australia does more than 60 percent of its trade and it is this region that is helping prop up world growth at a time when the European and US economies are faltering.

Recently the International Monetary Fund (IMF) cut its world growth forecasts but the new forecasts for this year and next year are still predicting world economic activity above the long-run average, underpinned by relatively robust economies in Asia.

The RBA must also consider the nature of the domestic economy. And here the Aussie economy still carries the 'patchwork' or multi-speed economy' tags.

There continue to be key areas of strength in the local economy, namely business investment and related sectors. There is also a strong net income injection to Australia from the record level of the terms of trade.

On the other hand, there are also sectors in the economy that are struggling, courtesy of the high Australian dollar, selective household caution and the structural change the economy is undergoing. Some of the key sectors affected are manufacturing, tourism, education and retailing.

Speculation about the possibility of a rate cut in the press has encouraged a recent improvement in some of the indicators tracking these softer patches of the economy, although it is too early to be certain that it is the beginning of a lasting trend. Moreover, despite the recent improvements, these areas remain in soft patches. These indicators include retail sales, housing finance and building approvals. There have also been bounces in confidence for both consumers and businesses, although the pessimists still outnumber the optimists.

At the RBA's October board meeting, it noted that an improved inflation outcome would increase the scope for monetary policy to provide some support to demand, should that prove necessary. The inflation data for the September quarter as a result was seen as vital in determining the next rate move. While it is vital, the RBA still takes a comprehensive look at the data available on the economy.

The underlying inflation data for the September quarter was surprisingly low and a big change from the growth in prices recorded in the previous quarter. Indeed, it was the lowest quarterly growth rate in fourteen years and the second lowest reading since 1982.

The RBA's existing inflation forecasts have underlying inflation breaching its target band of 2-3 percent per annum at the end of the year and having a '3' in front over the forecast horizon period. It's the main reason just a few months ago the overwhelming consensus view was for more rate hikes from the RBA. What a difference a few months has made. The consensus view now resides with rate cuts.

The latest inflation data means that when the RBA publishes its quarterly Statement on Monetary Policy report on November 4, its inflation forecasts will be downgraded. It is unlikely that underlying inflation will now breach the target over this horizon. Together with the downside risks to the world economic outlook, one cannot rule out a rate cut from the RBA next week.

But it is a close call and one that is giving some economists (like myself) sleepness nights.

One can easily find a solid argument for the RBA to sit pat next week and keep its powder dry. The RBA might want to wait-and-see how the recent improvement in domestic demand develops. Unemployment remains low, reflecting a tight labour market. The weak productivity outcomes mean unit labour costs are rising. And the strong business investment spending in the pipeline means the inflation worry beads can't be popped in the bottom drawer and forgot about. Further, there's been a recent easing in financial conditions, for example via lower fixed mortgage rates.

If a rate cut eventuates, we do not think that this rate cut would precipitate a deep or long series of rate cuts. The shape the Aussie economy is in simply does not warrant it.