From Bill Evans, Chief Economist at Westpac:
The Reserve Bank will release its revised forecasts for growth; inflation; and unemployment on November 10 in its Statement on Monetary Policy. Forecast ranges will be replaced with point estimates. Interpreting the mid points of the ranges as the implied point estimates from previous Statements we do not expect the Bank to change its forecasts for 2018 or 2019.
Deputy Governor Debelle announced recently that the Bank will change its policy of forecasting ranges, “these ranges will be replaced by the central forecasts to the nearest quarter point”.
The key forecast ranges which were included in the August Statement on Monetary Policy were:
GDP growth: Dec 17: 2–3%; Dec 18: 2.75–3.75%; Dec 19: 3–4%.
Underlying inflation: Dec 17: 1.5–2.5%; Dec 18: 1.5 – 2.5%; Dec 19: 2 – 3%.
Unemployment rate: Dec 17: 5- 6%; Dec 18: 5–6%; Dec 19: 5 – 6%.
How might the new point estimates line up with the old ranges?
We know the following:
- The commentary in the August SOMP on the unemployment rate was: “It is expected to edge lower over the forecast period to be just under 5.5% at the end of 2019”. At the time of the August SOMP the unemployment rate stood at 5.6%. (June unemployment rate was released as 5.64% – the most recently known number). The current unemployment rate is 5.5% so it seems unlikely that this assessment will change.
- At the time of the August SOMP the AUD stood at US$0.80 compared to US$ 0.765 at present. (TWI at 67 compared to current 65). Forecasts are based on the current spot level of the AUD. A 3–4% lower AUD will only support the Bank’s commitment to the above trend growth forecasts and rising inflation outlook we saw in the August SOMP.
- The Australian Bureau of Statistics has released revised weights for the components of the CPI. Westpac estimates that these revised weights will reduce the profile of underlying inflation by .05% in 2017; 0.23% in 2018; and 0.20% in 2019.
- However, this is not just a matter of the RBA agreeing with our CPI revisions. For a start, we do not believe that the RBA forecasts inflation from the bottom up (component by component), as we do, so the weights will not mechanically affect their forecasts. Secondly, the Bank is also on record as expecting that the revised weights will lower the profile of the underlying CPI by 0.2% per year – arguably that 0.2ppt adjustment has already been incorporated into the Bank’s forecasts. Their forecast of 1.5–2.5% in 2018 is already cautious but “safe” in that the expected level of inflation is still within the target band (albeit at the bottom). Nevertheless it is going to be difficult for them to credibly maintain the current 2% forecast for Dec 2017 with the first three quarters totalling 1.35% and no recent print being remotely close to 0.65%. It is more likely that the Dec. 2017 forecast will be reduced to 1.75%. That will then allow a smooth upward progression for inflation of 1.75; 2.0%; and 2.5%.
- Since the August SOMP the Bank should be unnerved by the “signals” around the household sector, with weak retail sales, rising debt, rising energy prices, and softening housing markets. The negative wealth effect around the housing market might be of particular interest. But the labour market remains strong and the RBA’s expectation of rising wages growth can be used to sustain upbeat growth forecasts.
Using the above information we expect the following point estimates for the November SOMP:
GDP growth: Dec 2017: 2.75%; Dec 2018: 3.25%; Dec 2019: 3.5%.
Underlying inflation: Dec 17: 1.75%; Dec 2018: 2.0%; Dec 2019: 2.5%.
Unemployment rate: Dec 17: 5.5%; Dec 2018: 5.5%; Dec 2019: 5.5%.
Note that our expectations are for unchanged forecasts (using mid-point for range) for 2018 and 2019.
The only slight changes will be around the 2017 numbers where data releases since August have indicated that it will be necessary to revise up growth in 2017 to 2.75% but cut the inflation number to 1.75%.
For the record, Westpac’s comparable numbers are:
GDP growth: Dec 2017: 3.0%; Dec 2018: 2.5%; Dec 2019: 2.5%.
Underlying inflation: 2017: 1.75%; Dec 2018: 2.0%; Dec 2019: 2.0%.
Unemployment: 2017: 5.5%; Dec 2018: 6.1%; Dec 19: 6.0%.
We do not expect to see any movement in the RBA’s forecasts towards our view.
The lower AUD supporting the forecasts will help boost the RBA’s confidence in their upbeat growth and inflation (in 2019) outlook.
The revised weights will not affect the inflation call. For the RBA, strategically, it is very important to maintain the 2.5% call for 2019.
Logically, if GDP growth is above trend in 2018 (as expected by the RBA), a closing in the output gap would boost inflation.
If our expectations for the RBA’s inflation and growth forecasts are correct there will be no implications for markets.