The Reserve Bank of Australia delivered few surprises in its November monetary policy meeting, leaving interest rates unchanged at 1.50%, a decision widely expected by financial markets and a majority of economists.
And it even provided a sneak peek on what to expect in this Friday’s quarterly statement on monetary policy, acknowledging that its “forecasts for output growth and inflation are little changed from those of three months ago”.
“Over the next year, the economy is forecast to grow at close to its potential rate, before gradually strengthening. Inflation is expected to pick up gradually over the next two years,” it said, offering no real sense of urgency that additional monetary policy stimulus is required, at least in the near-term.
Financial markets have certainly adopted this view, pushing up the Australian dollar, selling down higher yielding stocks as well as Australian interest rate futures (indicating higher yields).
Cash rate futures for February 2017 also fell, reducing the odds of a 25 basis point rate rate cut at this meeting to 24%, down from 35%.
It all points to a central bank that is comfortable where things sit right now.
While that’s the view of financial markets, it’s time to see what economists have made of it all. Has yesterday’s rate decision signaled the end of the RBA’s five-year long easing cycle, or is another rate cut still a possibility?
We start with the view from Westpac’s chief economist, Bill Evans:
Bill Evans, Westpac
We are not surprised by this decision and Statement. It is entirely consistent with our view that rates will remain on hold for the remainder of this year and over the course of 2017.
As we have discussed in previous notes the inflation outlook is unlikely to be the source of any future policy adjustment. The policy easing in 2016 has been in response to the inflation shock earlier in the year but now policy is likely to refocus on the real economy.
Our current forecast of 3.3% growth next year, supported by 1.6% growth in employment, is unlikely to signal the need for lower rates.
However, with inflation only likely to track along the bottom of the 2-3% target band next year there will be scope to ease further should growth, and the labour market in particular, profoundly disappoint. That is not our forecast but we acknowledge that if rates are to move next year it will be down rather than up.
Shane Oliver, AMP Capital
Overall the RBA appears to have taken the view that with September quarter inflation low but in line with expectations and the economy expected to grow around potential and then strengthen it was appropriate to leave interest rates on hold for now.
Short of a shock — a plunge in share markets in response to a Trump victory or a run of very soft economic data globally or in Australia for example — it’s hard to see the RBA cutting interest rates at its December meeting. So the focus will now shift to the February meeting next year.
While the tone of the RBA’s Statement was basically neutral it’s too early to rule out further rate cuts next year as housing construction will slow, house price momentum is likely to soften leading to fading wealth effects, falling full time jobs are a concern for consumer spending, credit growth is slowing and inflation risks are skewed to the downside. The RBA may also need to offset regulatory driven increases in bank mortgage rates.
So we are allowing for one rate cut in the first half of next year. Regardless of whether there will be further cut or not, a rate hike is probably two years away.
Finally, the continuing strength in the $A and the risks it poses begs the question as to why the RBA doesn’t just maintain an easing bias. The RBA doesn’t have to act on it and it costs nothing but will help prevent the $A from appreciating.
Scott Haslem, UBS
The RBA statement was again ‘near-neutral’, with only minor tweaks to the prior post-meeting statement. Moreover, the RBA flagged ‘little change’ to their medium term (SOMP) forecasts to be released this Friday.
We believe the RBA has drawn a “line in the sand” at the 1.5% y/y pace for underlying inflation, given it is the lower bound of every single point forecast the RBA has out until the end of 2018. If underlying inflation were to drift below this in coming quarters, the RBA would likely feel under some pressure to further lower the cash rate.
Absent this, we see the RBA on hold at 1.5% for the foreseeable future.
Ivan Colhoun, National Australia Bank
The RBA’s forecasts for growth and inflation were little changed. This is important – normally, policy moves occur when the Bank changes its forecasts – or its confidence surrounding the achievement of those forecasts is diminished. As three months ago, the Bank thinks growth will gradually strengthen and inflation gradually return to the low end of the target band. This outlook would need to change for a further rate change.
In this regard, we suspect the trend for employment will be very important to monitor over coming months, as continued slowing would risk possible further undershoot on inflation and a build-up in spare capacity in the labour market.
NAB expects the RBA to remain on hold until later in 2017, before further easing policy in anticipation of weaker housing construction in 2018, though that is still a long way off as far as the markets are concerned. We will also continue to monitor the recent softness in business conditions in NSW and the retail sector given their size.
Felicity Emmett, ANZ
With the Q3 inflation report out of the way, the key data to watch are housing and labour market data. Housing market data have assumed more importance given the recent change to the RBA’s statement on the conduct of monetary policy to take more explicit account of financial stability. Here the RBA is watching the current strength in the housing market and the potential for exacerbating existing imbalances where the RBA is mindful of the potential disinflationary impact of the looming supply in the apartment market.
The currency also matters to the RBA given that its real TWI model suggests the exchange rate is currently about one standard deviation away from fair value.
We continue to think that rates are on hold, but with the RBA retaining an easing bias given the weak inflation outlook.
We see monetary policy on hold for the time being as the Bank gauges the impact of the rate cuts in May and August and watches closely developments in the housing and labour markets, as well on ongoing inflation dynamics.
Paul Bloxham, HSBC
Although underlying inflation is running at 1.5% YY, which is below the RBA’s 2-3% target band, the central bank noted that ‘the September quarter inflation data were broadly as expected’ and that ‘inflation is expected to pick up gradually over the next two years’.
It’s clear that although inflation is still below target the RBA is making use of the ‘flexible’ and ‘medium-term’ nature of the inflation targeting regime.
In short, the RBA decision-makers are not ‘inflation nutters’. Today they backed this up with (lack of) action.
We expect the RBA to be on hold at 1.50% in coming quarters
Michael Blythe, Commonwealth Bank
The RBA’s commentary on the broader economic picture presents a relatively happy story. The economy is expected to grow near potential for the next year before strengthening. The forward looking indicators of the labour market point to further jobs growth.
One reason for extending the policy response time frame is the additional emphasis on potential risks to financial stability from rapid or overly aggressive action. The housing market is clearly in the frame here.
We were of the view that another low inflation reading for Q3, benign inflation prospects and some concerns about inflation expectations would drag the RBA over the rate cut line. In the event, the Bank has stood firm and the cash rate remained at 1.5%.
We are unwilling to call today as the bottom of the cash rate cycle just yet. But given the RBA’s role as a reluctant rate cutter, we have pushed back our call to Q2 2017.
Paul Dales, Capital Economics
The decision by the Reserve Bank of Australia to leave interest rates at 1.5% today may fuel some speculation that the next move in rates will be up, although not for a long time. That possibility shouldn’t be ignored, but we’re not convinced that the low inflation problem has been solved yet.
The RBA does not seem closer to concluding that the two conditions that could prompt it to try to return inflation to target more quickly, namely a weaker labour market or an easing in financial stability concerns, have been met.
The low underlying inflation forecast suggests that the Bank is still much more likely to cut rates further over the next 12 months than raise them.
While the chances of further rate cuts have diminished, it is far too soon to conclude that the RBA’s low underlying inflation problem has been solved. So if underlying inflation fails to rise as fast as the RBA hopes in the second half of next year, then the Bank may yet cut rates to 1.0%.
Stephen Walters, Australian Institute of Company Directors
The unspoken reason for the “no change” decision today, however, could be that the Board is having a fresh look at the uncomfortable balance between the near term desire to get inflation back up into the 2-3% target range and longer term financial stability and housing-related risks that rate cuts will make worse. RBA Governor Lowe hinted in his recent public comments that exuberance in housing has become a larger blip on the Bank’s radar screen. Officials don’t want to make the current problems more acute by stoking a brush fire into a blaze.
Attention now shifts to the release on Friday of the Bank’s quarterly statement (the SOMP), which will include any updates to the official forecasts. The modest surprises in last week’s inflation report don’t seem large enough to trigger material changes to the inflation projections, and the prevailing growth numbers also are unlikely to be adjusted, as today’s commentary suggests.
The main focus then will be on whether the Bank retains the implied easing bias from the August SOMP. This looks likely, if only because it might keep a lid on thus-far recalcitrant AUD.
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