- The RBA kept the cash rate unchanged at 1.5%;
- The accompanying statement suggested the RBA is comfortable with its forecast of a gradually strengthening economy;
- An unchanged cash rate for 2017 is looking very much to be on the cards.
Nobody does it better
Makes me feel sad for the rest
Nobody does it half as good as you
Baby, you’re the best
‘Nobody does it better’, Carly Simon
James Bond films (almost) always start off with a cracking song. And of all the songs, one of the best was Nobody Does it Better, the opening track from The Spy Who Loved Me. The song (released in 1977) hit the top ten in most countries, including being number one in Ireland (according to Wikipedia). The song won an Academy Award nomination for best song (it lost), and was voted 67th greatest song by the American Film Institute of the greatest 100 songs of American cinema in the 20th century. And most impressively, it spent more time on the charts than Carly Simon’s greatest hit (‘You’re So Vain’).
Nobody Does it Better could also be the theme song for the RBA. Australia has not had a recession for well over two decades. There are plenty of good reasons behind this sustained strong performance, but one is that the RBA has generally pulled the interest rate reigns at the right time. At various times over the past few years, knowing when to loosen the reigns and when to tighten them has been a tricky business. But right now the economy is proving to be an easier ride.
Tomorrow’s GDP numbers will provide a comprehensive update as to how the economy was travelling in Q1. The number is likely to show slow growth, but the RBA puts this down to ‘quarter-to-quarter variation’. A weak economy is inconsistent with other evidence. There has been almost an increase of 100,000 jobs over the past 2 months, while the unemployment rate has declined. While I don’t think the economy is performing that well, other indicators such as job vacancies and advertisements also indicate a stronger labour market. A very weak economy is also inconsistent with business confidence being around 9-year highs. Sydney and Melbourne are full of cranes, and our ports are busy processing exports. Hotels are filling up, and our universities are attracting plenty of overseas students. Farmers in many regions are having a good run. The RBA noted today that it believes that the end of the decline in mining investment is nearing. Momentum in the economy has picked up since the start of the year. All of this has made the RBA more comfortable with its forecast of a gradually strengthening economy, and a falling unemployment rate.
The other big plus is that the global economy is doing well. The unemployment rate in the US is at its lowest level in in over 15 years. It is near 25-year lows in Japan. And momentum in the European economy is probably the best of them all. But the global concern is not so much how well the economy is performing, but the lack of inflation and wages growth. Too-low inflation is also an issue in Australia, and the RBA expects wages growth to remain low for an extended period. While domestic business surveys indicate that prices are no longer falling, they are also not pointing to substantial rises. For a long time, central banks found that the toughest terrain was trying to reduce inflation. These days trying to get a lift inflation appears to be the tougher challenge.
For the RBA the current interest rate question is relatively straight forward. The strength of the housing market means that the RBA would be a reluctant rate cutter, although today’s Statement noted there are signs that house price growth might be starting to ease. The good news is that with the unemployment rate falling, the economy does not currently need another rate-cut boost. But with inflation still too low, rate hikes are currently not on the agenda. This suggests that an extended period of an unchanged cash rate is likely. This is also the prediction of most analysts, with the overwhelming majority expecting that the cash rate will still be 1.5% by year-end. Our read of today’s statement is that the RBA has a neutral outlook (ie, is not looking to either hike or cut rates for the foreseeable future).
Interestingly, the majority of analysts expect a higher cash rate by the September quarter of 2018. Financial markets are less certain with (at the time of writing) only a modest chance of a rate increase priced by end-September 2018. Indeed, financial markets even have around a 20% chance of a rate cut priced in over the next 6-9 months.
It is probably fair that if there is to be a rate change over the next six months it is more likely to be down. While the economy is looking better, most of the risks are still biased towards economic weakness. The big global rise of debt over the past decade (most notably in China) is probably the major global risk. Most commodity prices remain relatively high by historical standards, and therefore vulnerable to a further decline. As noted, global central banks are struggling to get a lift in inflation. And domestically the housing construction cycle is coming to an end.
Our forecast of an unchanged cash rate over the next year remains the same. Interestingly, the most recent Reuters survey indicated that most analysts expect that the $A will remain around its current level over the next year. With the risk of further declines in commodity prices, we think there is a greater chance that the $A will depreciate. Indeed in a scenario of falling commodity prices, a $A of closer to 70c would not appear unreasonable.
|Variable||Current (6 June 2017)||End Dec 2017||End June 2018|
|Cash rate||1.50%||1.50% (1.50%)||1.50% (1.50%)|
|AUD/USD||0.7491||0.74 (0.72)||0.74 (0.70)|
Figures are the median financial-market analyst forecast, sourced from Reuters. End-June analyst forecasts are the 3-month forecast, while end December is analyst 12-month projection. The figures in brackets is the BoQ forecast.
The Digital Spy website ranked ‘We Have All the Time in the World’ as the number one Bond theme song. In that song, Louis Armstrong sang, ‘Every step of the way will find us, with the cares of the World far behind us’. For the RBA, today’s step was relatively carefree. Undoubtedly, there are more difficult steps to come.
We live in interesting times.