Below find Westpac’s Bill Evans doing his best to make sense of today’s RBA decision, and failing:
RBA surprises by keeping rates steady but a December cut is still the most likely prospect.
In a move which we found somewhat surprising the Reserve Bank Board decided to leave the cash rate unchanged at 3.25% following the November Board meeting. The key explanation appears to be that the inflation report was “slightly higher than expected” and recent information on the world economy was “slightly more positive”.
However it does not appear that the inflation report will be sufficiently binding to eliminate the possibility of a move in December. This is because the Bank still confirms that inflation will be consistent with the target over the next one to two years. Any qualification of that view would most likely have eliminated the possibility of a December rate cut.
The slightly more positive information on the world economy can be put down to an improved assessment of China. The Governor states that recent data from China suggests growth has stabilised. In the Oct statement he referred to China as “uncertainty about near term prospects is greater than it was some months ago”.
Of most importance was that the final sentence in the statement left the door open for a cut in December by using the term “monetary policy was appropriate for the time being”.
From our perspective the most perplexing aspect of the statement related to the Bank’s assessment of future prospects and the policy task for the domestic economy. In October we were relieved to see that the Bank had recognised that the peak in the mining boom was imminent and that it was important that other components of demand strengthened. This time all that is said is that the Board will be “monitoring the strength of other components of demand”. If the sentiments from the October statement remain, as absolutely should be the case, it is surprising that the words were changed so markedly in this statement.
The comments on the domestic economy seem to be straining to identify good news. Some signs of ongoing growth in consumption were identified; some indications of a prospective improvement in investment in dwellings were also noted while the housing market was described as “has strengthened” and business credit had increased. All these signs are correct but the improvement is tepid and should be further boosted with lower rates.
The stance of monetary policy is described as rates “clearly below their medium term averages” whereas in October borrowing rates were described as “a little below their medium term averages”. With the differences between October and November rates being around 20bps this is a surprisingly sharp revision in the assessment of the policy stance. As readers will know we assess current policy at around 65bps below neutral compared to the lows in previous easing cycles in 2008-09 and 2001 of 150bps and 125bps respectively.
On the international front the view on the US as “moderate growth” is unchanged while the implication that recent positive developments in financial markets in Europe might be overly optimistic continues to be the Bank’s position. Asian growth is recognised as having been dampened by the slowdown in China and the European recession.
The outlook
We are tempted to assume that if the Bank was unprepared to cut rates in November then what might change by the December 4 meeting. Of course there will be no further update on inflation with the next inflation report due January 23 We would be surprised to see any sudden developments either to the upside or the downside in the global environment. In fact, our view on China is constructive.
Domestic data which will be available will include the next employment report ; consumer and business confidence; the wages report; the Capex report; credit; dwelling and housing finance approvals; and retail sales. The all important GDP report for the September quarter will not be released until the day after the December Board meeting.
With inflation and the world economy being attributed as the key drivers of the current decision it would be reasonable to conclude that the RBA will remain on hold at least until February next year. However we have seen instances like the current one in the past when the Reserve has surprised and believe that it is prudent to assume that if the case is strong in November then it will remain strong in December although the Bank is likely to respond in a different way.
It would also be our assessment that while growth, to quote the Governor, “has been running close to trend” prospects for a ramp up in non-resource spending to maintain trend growth in light of the slowdown in the resources sector are not strong unless we get further relief on the interest rate front. The data flow over the course of the next month is likely to support that view.
Accordingly, our view is that a 25bp cut can be expected in December to be followed by another cut early in 2013.
