Find below two interest rate arguments that summarise where the economy and monetary policy is at. My own views are at the end. And no, I will not be lowering my trousers. First, the bearish case from Westpac:
RBA holds rates steady; but retains easing bias; next move down
As expected the Reserve Bank Board decided to leave the cash rate unchanged at 3.00% at its April meeting.
Given that there has been some discussion in the media around rates rising this year we were very interested to see whether the Governor indicated whether he still had an easing bias. That was confirmed by repeating the term: “The inflation outlook, as assessed at present would afford scope to ease policy further, should that be necessary to support demand”. We read this as indicating that the Bank’s current stance is that they see it more likely that the next move in rates will be down rather than up. Of course a further assessment of the inflation outlook will be available on April 24 and that will be an important input into whether the Bank still sees scope to ease. Our early forecast is consistent with inflation remaining contained and the Bank’s medium term target for both headline and underlying measures to be retained at 2.5%.
The second area of considerable interest from our perspective in the statement was the official assessment of the surprise jobs growth in February of 71,500. Comments from Bank officials following that print around sampling variability and continuing prospects for rising unemployment indicated to us that the number would be severely qualified. In the Governor’s statement in March he referred to the labour market as: “with the labour market softening somewhat and unemployment edging higher conditions are working to contain pressure on labour costs”. In today’s statement he is much more concise: “labour costs remain contained”. This suggests that the Governor is not prepared to accept that the job report signals an improving market but he is also not prepared to publicly dismiss the number. He has left the issue open until we see further evidence around the labour market.
There were some issues around the domestic economy where the wording was a little more positive than in March:
1. “Dwelling investment appears to be slowly increasing” (March) vs “dwelling investment is slowly increasing” (April);
2. “Demand for credit is low” (March) vs “Demand for credit has also remained low thus far” (April);
3. “Investment generally outside the resources sector is relatively subdued though recent data suggest some prospect of modest increase during the next financial year” (March) vs “the near term outlook for investment outside the resources sector is relatively subdued a modest increase is likely to begin over the next year” (April);
4. “Though the full impact of this [easing in monetary policy] will take some more time to become apparent there are signs that the easier conditions are having some of the expected effects” (March). Arguably the following statement is stronger: “there are a number of indications that the substantial easing in monetary policy is having an expansionary effect on the economy” (April).
On the other hand there appears to be a little more urgency around the slowdown in mining: “the peak in resource investment is approaching” (March) vs “the peak in resource investment is drawing close” (April). Secondly: “the exchange rate remains higher than might have been expected” (March) vs “the exchange rate, which has risen recently, remains higher than might have been expected” (April).
On the international front there appears to be little recognition of the threats posed by Cyprus to Europe. Global growth is still described as “a little below average for a time” while “the downside risks appear to be reduced”. That is a less confident commentary than “downside risks appear to have lessened over recent months” (March). Unlike March where financial strains in Europe are described as “considerably reduced” there is no commentary on developments on financial strains but Europe is now described as: “remains in recession”. Whereas in March financial markets were described as “remain vulnerable to occasional setbacks” they now “remain vulnerable to setbacks” implying a higher probability of these developments.
For the domestic economy there are a number of more positive nuances in this statement than we saw in March around dwelling investment; non mining investment; and the overall impact of the easing in policy. The Governor has sidestepped the issue of the February employment report but is no longer prepared to refer to a softening labour market or rising unemployment. On the other hand there is a little more urgency around the peak in the mining boom while the rising Australian dollar continues to represent concerns.
By retaining the easing bias the Governor is signalling to us that in the Board’s view, despite some more positive nuances, rates are more likely to be cut than increased at the next move. He has not moved to a neutral bias or used language to suggest that he expects rates to be on hold for an extended period.
Accordingly, it is our view that the arguments around both domestic and international economies still support lower rates. Accordingly we retain our position that rates are likely to be cut by 25bps in June, or shortly thereafter.
And next from HSBC:
RBA Observer Update
The RBA held its cash rate steady today, at 3.00%, as expected. The statement was very similar to last month’s, reiterating that ‘the inflation outlook, as assessed at present, would afford scope to ease policy further, should that be necessary to support demand’. Tactically, it pays the RBA to be dovish, particularly given their concerns about the continued high AUD. But a dovish bias does not mean they will necessarily follow through with cuts. With demand already picking up in the interest-rate sensitive sectors of the economy, we remain of the view that the easing phase is done.
– The RBA held the cash rate steady at 3.00% today (all of the economists in the Bloomberg survey expected a hold decision and this was 96% priced just prior to the announcement).
– The statement was very similar to the previous one in both tone and content.
The decision to hold rates steady today was no surprise. The statement was also very similar to last month’s, suggesting that the RBA could cut the cash rate further if needed, given their outlook for inflation to remain contained.
As it did last month, the statement noted that the loosening of monetary policy during late 2011 and 2012 is having an expansionary effect, but that, on the other hand, the AUD remains higher than might have been expected. The RBA is clearly still somewhat concerned about the high level of the AUD.
Given concerns about the high AUD, it pays the RBA to be dovish. But this does not necessarily mean that they will follow through with cuts. We remain of the view that the easing phase is done.
The RBA held the cash rate steady at 3.00% as expected.
The statement reiterated that they could cut further if needed. We continue to expect that they will not need to cut further and maintain our non-consensus view that the easing phase is done.
Paul Bloxham, Chief Economist (Australia and New Zealand)
My own view is that neither of these is right. I do not believe that the current property “recovery” is anything like as strong as it appears to be. I nonetheless expect it to continue at a diminishing growth rate as first home buyers begrudgingly return. I am very suspicious that we will not see a big enough rise in housing construction.
But the big issue in the second half is not Europe, it’s China, which is serious about shifting from fixed asset investment growth drivers. As an iron analyst I therefore see a second half that brings another down leg in the terms of trade that coincides with the peak in mining investment and the election of an austerity minded Coalition government.
My base case is that rates are thus going to fall further in the second half and again next year. I expect a bottom at 2-2.5%, largely because the RBA dares not cut any further for fear of capital flight. The main risk to my view is I’m ahead of the curve on China.
Then the fun may begin in earnest as the dollar falls and inflation rises.