From Bill Evans:
The Reserve Bank Board will meet on March 3 next week. It will be Super Tuesday in the US but there will be no “excitement” in Sydney. We expect the cash rate to remain on hold.
However, we do confirm our call for a cut from the RBA at the following meeting on April 7.
Prior to the surprise lift in the unemployment rate for January, which printed 5.3% from 5.1%, markets were only pricing a probability of around 25% for a cut in April. Pricing has now reached a 60% probability – a level of market pricing that the Board would see as reasonably consistent with a decision to move.
However, March pricing is still only around 10% and, given the most recent communications from the RBA, that pricing seems consistent with the likely outcome of the meeting.
Recall the RBA’s most recent communications: “If the unemployment rate were to be moving materially higher and there was no further progress being made towards the inflation target, the balance of arguments would tilt towards a further easing of monetary policy”.
“The Board also recognises that a balance needs to be struck between the benefits of lower interest rates and the risks associated with having interest rates at very low levels.”.
“A further reduction in interest rates could also encourage additional borrowing at a time when there was already a strong upswing in the housing market”.The first point is a little surprising given that in 2019 a clear justification for cutting the cash rate from 1.5% to 0.75% was to accelerate progress toward pushing the unemployment rate to full employment which has been estimated by the RBA as 4.0%–4.5%. However, arguably, the lift in the unemployment rate through 2019 from 5.05% to 5.29% might already be deemed “material”. Certainly it would have been disappointing for the RBA to have seen a deterioration in the unemployment rate over the course of 2019.
The issue around “additional borrowing” is interesting. Presumably, there is some concern about “over heating” housing markets although from a credit/leverage perspective the issue is not relevant. Housing credit growth is currently at historical lows (3.1%) and, even allowing for a solid (20%) lift in new lending over the course of the next year housing credit growth will only lift to an anaemic 4% from the current 3.1%. This moderate outlook is partly explained by the tendency of households with existing debts to use rate cuts and tax cuts to pay down debt to strengthen balance sheets rather than over leverage, as feared by the RBA.
Further, note that “frothy” housing markets are characterised by excessive “investor” activity. That is not apparent in this cycle. Since the low point in house prices in May 2019 new lending to owner occupiers has lifted by 21%; first home buyers by 26%; but for investors by “only” 16%.
Contrast that with the last year of the 2016/17 housing boom when new lending to investors grew by 35% and, only, 12% to owner occupiers.
Finally, consider the progress towards the inflation target. In 2017 the trimmed mean grew by 1.7%; 1.8% in 2018; then slowed to 1.6% in 2019.
The RBA is forecasting GDP growth in 2020 of 2.7% (around trend) and expecting that trimmed mean inflation growth will lift to 1.8% in 2020 and 2.0% in 2021, based on a growth forecast of 3% (above trend).
After adjusting for the impact of the COVID-19 on activity in the first quarter Westpac is forecasting GDP growth of 1.9% in 2020 – a widening of the output gap with little hope of a marked lift in growth in the trimmed mean.
They should cut next week. All of this data is dated and useless. The virus is coming and markets are shut. Economies are next.
Cut.
