The Statement accompanying the announcement of the RBA’s decision not to move rates this month has just been released and from our point of view it is a very dovish insofar as the RBA spends most of its time talking about downside issues with only inflation as a risk to higher rates.
I still think they are struggling with the difficulty of understanding how their view of the domestic economy and global economy is going awry but they are least granting themselves their usual intellectual alacrity to watch as things evolve but there is a clear softening in rhetoric over the past couple of months.
Lets walk through the statement and then give a conclusion.
Global economy
The global economy is continuing its expansion, but the pace of growth slowed in the June quarter. The supply-chain disruptions from the Japanese earthquake and the dampening effects of high commodity prices on income and spending in major countries have both contributed to the slowing. The banking and sovereign debt problems in Europe have also added to uncertainty and volatility in financial markets over recent months…A key question is whether this more moderate pace of growth will continue.
Interpretation: not really much required there, they see the slower economy as a risk and indeed the way they argue that things are probably still ok is one of the most interesting parts of the statement.
Despite the challenging international environment, the central scenario for the world economy envisaged by most forecasters remains one of growth at, or above, average over the next couple of years. A number of countries have tightened monetary policy but, overall, global financial conditions remain accommodative and underlying rates of inflation have tended to move higher.
Interpretation: “envisaged by most forecasters” the behaviouralist in me says they are wrapping themselves in a blanket of “it’s not just us getting it wrong” and that tells me they are struggling at the moment to get their arms around the dynamics and the quick change in their outlook.
Domestically
They are still trying to be upbeat and signalling that they retain their central tendency when they say,
Australia’s terms of trade are now at very high levels and national income has been growing strongly…Investment in the resources sector is picking up strongly in response to high levels of commodity prices and the outlook remains very positive. A number of service sectors are also expanding at a solid pace.
But its not all rosy,
…conditions vary significantly across industries…cautious behaviour by households and the high level of the exchange rate are having a noticeable dampening effect. The impetus from earlier Australian Government spending programs is now also abating, as had been intended.
Interpretation: We still have a barbell economy and we still have our central tendency so we still think we’ll tighten eventually.
Their growth outlook is interesting because they cite the recovery from the floods and cyclones but ad, very importantly I would say,
growth through 2011 is now unlikely to be as strong as earlier forecast. Over the medium term, overall growth is still likely to be at trend or higher, if the world economy grows as expected.
Interpretation: Those highlighted words are added to the sentence this month! Thus, We are faced with weaker growth and it is crucially now more dependant than ever on what happens off shore. I think that is a nod to a risk of a Chinese mis-step. Perhaps I’m over reading it but i think it is a really interesting sentence.
Once again they are highlighting that the employment market is softening with leading indicators pointing to more softness and the corollary of this has to be more concerns at a household level about what is going on in the economy so more domestic household cautiousness seems a distinct probability. Crucially they highlight again that skills shortages are only in mining and related sectors. So we shouldn’t see a wages breakout.
Demand for credit remains weak for households.
Credit growth remains modest. Signs have continued to emerge of some greater willingness to lend and business credit has expanded this year after a period of contraction. Growth in credit to households, on the other hand, has slowed. Most asset prices, including housing prices, have also softened over recent months.
Interpretation: In an economy where credit drives everything don’t expect too much good news here. Consumer cautiousness will remain and thus the retail sector will be subdued even if business credit is holding up for the moment.
Inflation
Don’t worry,
Year-ended CPI inflation is likely to remain elevated in the near term due to the extreme weather events earlier in the year. However, as the temporary price shocks dissipate, CPI inflation is expected to be close to target over the next 12 months. In underlying terms, inflation has been in the bottom half of the target range, though a gradual increase is expected over time.
Interpretation: Don’t worry about inflation. Core might rise but we know that.
So all in all they left rates on hold. No surprise there but I truly think this is a further iteration of the softening of their very aggressive stance from back at the May SoMP. Heaven Knows what drove their aggression back then but the reasons for the U-Turn are obvious. Uncertainty has grown in the Australian and International economies.
Rates are on hold for a while.
The implications for asset prices are obvious from the underlying themes in this statement should they hold for an extended period as we believe they will. Remember though we are faced with benign growth not recession so this is a good thing and a great time for households to rebuild balance sheets.
House prices will continue to pull back from lack of credit demand and a lack of upgrader demand while this cohort focusses on paying down debt.
Equities are faced with the earning potential of a slow growth global and domestic economy so stock picking is a must rather than just an index play. There will still be very worthwhile investments out there – just need to find them.
The ASX200 is off a few points from 2.29pm before the statement and it is true that global atmospherics are probably more important than what the RBA said but there is likely to be ongoing adjustments to those companies faced with this slower growth climate and impact. Banks for example from the lower demand for credit.
Short term interest rates are on hold for a while with the market expecting no rate hikes for more than 12 months and starting to think about rate cuts. Probably too soon at present but in this environment Australian ADI Term Deposits have to be offering the best risk adjusted return on the planet at the moment.
Longer Term Rates are a little lower and can probably fall a little further in time. We may see rates close to where they were the last week in the Greece induced panic again.
The AUD/USD is holding in pretty well and a benign global growth environment doesn’t hurt too much. A reappraisal of Australia’s growth prospects will take some support away from it and this might kick it back toward the bottom of the recent range but a substantial fall should not arise from this statement or the outlook it suggests.
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This blog is for information only and does not constitute advice. Neither Greg McKenna, Lighthouse Securities nor MacroBusiness has taken your personal circumstances, objectives or financial situation into account. Because of this you should, before acting on this information, consider its appropriateness, having regard to your objectives, financial situation or needs.