Bloxo calls rate cycle bottom, again

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I thought he’d learned after calling this bottom four or fives already but no!

The RBA looks set to be firmly on hold next week, keeping its cash rate at 1.50%. Growth has held up well, commodity prices have been lifting, there has been little new information on inflation, and the RBA just delivered 50bp of cuts in recent months. The market is pricing close to a zero chance of a cut next week and we agree.

The more interesting question is whether more cuts will be needed in this easing phase? On this, we think the case for no more cuts is strengthening.

First, growth is strong. The Q2 GDP print, published in early September, showed growth of 3.3% y-o-y, which is above-trend. Looking forward, we also expect growth to remain well supported, particularly as the big drag from mining investment is set to fade. Business investment was a massive 1.6ppts drag on GDP growth in Q2, but by this time next year we expect that drag to have almost completely faded. There are also signs of lifting non-business investment and the forward indicators suggest that labour market conditions continue to gradually improve.

Second, commodity prices have risen and we expect that they have passed the trough. This has already supported a modest pick-up in national income growth and is set to boost export values, which have been weak in recent years. The particularly sharp rise in the price of coal (Australia’s second largest export), due to Chinese production cuts, should boost local incomes in the coming months.

Third, although underlying inflation remains below the RBA’s 2-3% target, we suspect it may be close to its trough, given strong growth and rising commodity prices. The RBA also seems quite prepared to tolerate below target inflation for a period, as long as it believes it will head back to target over time.

The key challenge to this view is that the lift in commodity prices and local growth could present an upside risk to the AUD. If the AUD were to lift, it could weigh on export growth and inflation. Clearly, the global rates outlook also plays a key role.

Our central case sees the RBA on hold in the coming quarters.

I can see the RBA on hold for a bit. If things go well we’ll see a decent patch of growth before more trouble strikes in H2 2017 as the dwelling boom rolls with the last leg down in mining investment and car assembly. But the backdrop will still be sliding terms of trade by year-end so income is not going to rebound for long, nor is inflation. The budget is still toast. And the Q4 risk gauntlet runs on with resolutions for Deutsche, Italian referendum and US election all in the offing. If we get through that then a Fed hike in December may upset markets, the BoJ is going to take its cash rate to the earth’s core and Chinese growth is still going to ease. Then it’s on to the big one, the French election mid-2017. At home we’ll see all of it intensifying the immigration debate.

That means no let up in general anxiety and poor consumption. Fiscal stimulus will help support labour markets and net exports add to GDP but it’s a stodgy outlook at best leading into the risks of H2 2017.

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There’s no bottom in site for the RBA.

About the author
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal. He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.