At its Board meeting this morning the RBA decided to cut rates to 2.25% in what is a clear signal that it has not only downgraded its inflation expectations but also that the RBA has a jaundice view on the growth outlook for the economy in the year ahead.
David Bassanese, chief economist for BetaShares, told Sky Business shortly after the announcement that this was “a vote of no-confidence in the economy” and it is difficult to argue with that assessment given that the Governor said in his statement that:
The unemployment rate has gradually moved higher over the past year. The fall in energy prices can be expected to offer significant support to consumer spending, but at the same time the decline in the terms of trade is reducing income growth. Overall, the Bank’s assessment is that output growth will probably remain a little below trend for somewhat longer, and the rate of unemployment peak a little higher, than earlier expected. The economy is likely to be operating with a degree of spare capacity for some time yet.
This is a clear downgrade from where the Governor was just two months ago. It is clear in his reassessment of the inflation outlook and the lack of impact that the Governor sees from a falling Aussie dollar on prices, that has also given room for the cut.
The inflation outlook smacks off an expectation of weak domestic demand. The Governor said, “With growth in labour costs subdued, it appears likely that inflation will remain consistent with the target over the next one to two years, even with a lower exchange rate.”
Speaking of the exchange rate it is clear that while the Aussie dollar, which has dropped more than a cent after the statement to 0.7677, has not fallen enough either against the US dollar or a “basket of currencies”:
It remains above most estimates of its fundamental value, particularly given the significant declines in key commodity prices. A lower exchange rate is likely to be needed to achieve balanced growth in the economy.
This comment along with the reference to macro-prudential work of the RBA and other regulators almost guarantees the RBA retains an easing bias after this cut.