The Reserve Bank of Australia (RBA) announced on Tuesday the Board decided to lower the cash rate from 4.5 percent to 4.25 percent, effective Dec. 7, at its December board meeting.
It was the second consecutive month that that the RBA has cut the rate.
RBA governor Glenn Stevens said growth in the global economy has moderated this year after a strong performance in 2010.
Stevens said the sovereign credit and banking problems in Europe were likely to weigh on economic activity over the period ahead.
"Financial markets have experienced considerable turbulence, and financing conditions have become much more difficult, especially in Europe," Stevens said in a statement accompanying the decision on Tuesday.
"This, together with precautionary behavior by firms and households, means that the likelihood of a further material slowing in global growth has increased."
Stevens said the productivity growth in the Australian economy had been close to trend, with stronger demand growth.
He said CPI (consumer price index) inflation on a year-ended basis remained above the target, but was starting to decline as production of key crops recovered.
"Overall, the Board concluded, on the basis of all the available information, that the inflation outlook afforded scope for a modest reduction in the cash rate," Stevens said.