- For the 12th consecutive meeting the RBA kept the cash rate at 1.5%;
- The main message from the accompanying statement is don’t expect a cash rate change any time soon;
- Despite the better run of data, the RBA is still focussed on the downside economic risks;
- The high level of the $A was also highlighted as a potential risk in achieving better growth and inflation outcomes.
‘Another one bites the dust
And another gone
Another one gone
Another one bites the dust’
Queen, ‘Another one bites the dust’
Queen will go down as one of the great rock bands of all-time. According to Wikipedia, Queen released 18 number one albums and 18 number one singles. Two of their hit songs, ‘We Will Rock You’ and ‘We Are the Champions’ have become sporting event staples. Of all their hits, ‘Another One Bites the Dust’ ended up being their biggest selling single. That song came to mind when thinking about RBA’s August monetary policy meeting. There are some meetings that are eagerly anticipated by financial markets. More usually, a RBA meeting results in no change in the cash rate and no significant change in commentary. Hence the feeling of ‘Another One Bites the Dust’
That said, each meeting has the potential to provide a twist. The good news for the RBA is that the economic information over the past month has come in broadly in line with their forecasts. The economy has strengthened (the RBA expects GDP growth of around 3% over the next couple of years), leading to rising business confidence and a pickup in capex spending. Infrastructure investment is strong. And importantly, strong business confidence is leading to a jump in jobs growth. This should help support consumer spending. Consumption was an area that the RBA highlighted as a potential concern for the economy, given the current low level of wages growth, high household debt (and looming rise in electricity prices).
One other area that has been commentated upon as a possible weakness is residential construction where the leading indicators suggest a slowing in activity. But the RBA does not appear too concerned with the outlook for house building, highlighting the substantial amount of home-building work still in the pipeline. They then expect a gradual easing in activity. Overall, the economy is running in line with the RBA views, although they appear a little more focused on the downside risks than what might have been expected given the recent run of data.
Although the economy is improving, the chance of a rate hike this year remains minimal. Partly this reflects the recent confirmation from the CPI that inflation in Australia remains under the RBA 2-3% target band. And all the signs are that inflation will remain modest. Both business and consumers expect price rises to stay low. Wages growth is also very modest (something that the RBA expects to continue). And the level of inflation globally remains very low.
The RBA noted that the recent CPI numbers came in broadly in line with their forecast. The most recent forecasts had the RBA expecting a gradual rise of inflation towards 2% over the next 6-12 months. We will get an update on the RBA’s economic and inflation views on Friday with the release of the August quarter Statement of Monetary Policy.
There are also other factors that are keeping the RBA firmly on hold despite an improving economy. The RBA noted in today’s Statement the rise in housing investor borrowing costs and some tightening of credit conditions. The other factor is that the $A has risen by 6-8% in the year to date. Exports sectors (such as tourism, education and agriculture) have all performed well, helped by an improving global economy and a $A in the mid 70c range. The RBA noted that if the $A remains strong it would be harder to achieve the pickup of growth and inflation that they are predicting.
The improvement in the global economy has seen financial markets price in (one) rate hike in the second half of next year. Analysts have also boarded the rate hike bus, with a majority of forecasters projecting the next move to be a rate increase in Q4 2018.
Given the global and domestic risks, I still think that the cash rate may still be 1.5% at the end of next year. Stubbornly low inflation has been the key factor keeping domestic and global rates low. An important factor that is likely to be required for a rate hike is a lower $A. So at face value there looks to be some inconsistency between the $A trading in excess of 80c and an expectation of a rate hike next year (unless the global economy ends up a lot stronger than everyone expects). I still look for the $A to head back towards the low 70c. But the strength of commodity prices suggests that this forecast is starting to look difficult to achieve before the end of this year.
|Variable||Current (4 July 2017)||End Dec 2017||End June 2018||End Dec 2018|
|Cash rate||1.50%||1.50% (1.50%)||1.50% (1.50%)||1.75% (1.50%)|
|AUD/USD||0.7668||0.74 (0.72)||0.74 (0.70)||(0.70)|
Figures are the median financial-market analyst forecast, sourced from the June 2017 Reuters survey. End-December forecasts are the 6-month forecast, while end June is the 12-month projection. The figures in brackets is the BoQ forecast. No market forecasts were available for end 2018.
For the remainder of 2017, the most important information for the Australian economy will be global. The most likely outcome is that the domestic economy will gradually improve, but inflation and wages growth will remain modest.
So the important questions will be whether US inflation picks up towards 2%, something that would result in a more aggressive Federal Reserve than currently priced (and therefore a lower $A)? Will the European Central Bank confidence about the European economy get to a point that they announce reduced support for the economy (current market thinking is yes, with that announcement currently expected in October). If this happens this could lead to a rise in longer-end interest rates. And will the Chinese economy keep producing strong numbers, something that is helping to power iron ore prices (and the $A) higher.
So this particular RBA meeting was uncontroversial, something that is always a bit of a disappointment to financial markets. For financial markets always looking for a bit of uncertainty, a more appropriate theme might come from another well-known Queen song ‘I want it all, and I want it now.’ The clear message is that interest rates are most likely to stay at 1.5% for the remainder of this year.
We live in interesting times.