Australia's central bank cut interest rates to 3.25 percent, their lowest level since the global financial crisis, warning that the growth outlook for next year had weakened.
The Reserve Bank of Australia on Tuesday slashed 25 basis points off the cash rate, taking it to lows not seen since October 2009, when it first resumed hiking them following the world downturn.
Governor Glenn Stevens said global weakness was weighing on the outlook, with Europe contracting and the United States only seeing modest growth.
"The outlook for growth in the world economy has softened over recent months, with estimates for global GDP being edged down, and risks to the outlook still seen to be on the downside," he said in a statement.
"Growth in China has also slowed, and uncertainty about near-term prospects is greater than it was some months ago."
The Australian dollar slumped about half a US cent on the surprise cut, to US$1.0320 from US$1.0369.
Treasurer Wayne Swan stressed Australia's strong economic fundamentals following the bank's downbeat assessment and said top trading partner China remained robust despite a recent cooling.
"Whilst China may be growing a little more slowly than people had anticipated, it's doing it from a very much bigger base," Swan told reporters.
China was now 40 percent larger than it had been before the financial crisis, meaning that growth of seven or eight percent remained "substantial", added Swan.
"The fact is that for a long time to come China is going to be a very, very important influence on regional and global growth, and nothing I can see in the outlook is going to fundamentally change that medium term," he said.
China is the major customer for Australia's natural resources, particularly coal and iron ore, and slowdown in its demand for the key steelmaking ingredients has weighed on prices.
Stevens said commodities prices were "significantly lower than earlier in the year", squeezing export earnings.
Looking ahead for mining, Stevens said the "peak in resource investment is likely to occur next year, and may be at a lower level than earlier expected", with demand in other areas of the economy yet to strengthen as forecast.
Commonwealth Bank analyst Michael Blythe said Stevens' remarks on the mining sector were significant, signalling a more hawkish view on how long the boom had left to run.
"Before now they were saying (the peak in investment) would be in the next few years," said Blythe. "So we'll need the non-mining part of the economy to pick up."
On the domestic front Stevens said the labour market appeared to be softening despite the unemployment rate remaining relatively stable at 5.1 percent, with credit growth slowing and the Australian dollar still high.
"At today's meeting, the board judged that, on the back of international developments, the growth outlook for next year looked a little weaker," Stevens said.
"The board therefore decided that it was appropriate for the stance of monetary policy to be a little more accommodative."