The Reserve Bank of Australia (RBA) may have just moved a little closer to cutting interest rates again, with a small but significant tweak to the final paragraph of its April monetary policy meeting minutes.
As it has said for some time now, the bank said that “taking into account the available information, the board judged that holding the stance of monetary policy unchanged would be consistent with sustainable growth in the economy and achieving the inflation target over time”.
However, while a clear neutral bias in isolation — helping to fuel the belief held by many that the cash rate will remain at 1.5% for the foreseeable future — it went one step further in April, adding that developments in Australia’s labour and housing markets “warranted careful monitoring over coming months”.
In what was an otherwise uneventful set of minutes, it stuck out, indicating that what happens in those markets near-term could lead to a reduction in official interest rates.
“This is an unusually specific remark, in citing particular data ‘triggers’,” said Ben Jarman, an economist at JP Morgan. “If an interest rate move is to be made in the near term, down is much more likely than up, so today’s shift in guidance can only feasibly be read as the RBA opening the door to a possible easing”.
Helping to bolster that view that any potential near-term move in rates is likely to be lower, not higher, Jarman says the board emphasised the linkages between labour market conditions, household consumption levels and inflationary pressures on several occasions in the minutes.
“The minutes note that the labour market is ‘somewhat weaker than had been expected’ and, on a couple of occasions, state that while forward-looking indicators had flagged some possible upside in coming months, these indicators ‘had been suggesting more positive employment outcomes than had been realised for some time’,” he says.
“Disappointment in the labour market is linked to ‘weaker than expected’ household consumption and retail spending, and similarly consumption weakness was ‘consistent with softer conditions in the labour market’.”
It’s a combination that hardly suggests that interest rates need to increase, particularly at a time when inflationary pressures are already weak, says Jarman.
“On the retail sector, the minutes note that ‘competition had remained strong’, which underpins the view that ‘the rise in underlying inflation was expected to be more gradual’,” he says.
While many believe the RBA is reluctant to act upon those concerns given continued heat in the Sydney and Melbourne housing markets, taking the view that lower borrowing costs would be merely amplify financial stability risks that the RBA and APRA have been trying to reduce, Jarman says that recent measures introduced by APRA to limit interest-only mortgage lending could see concerns those concerns ebb in the months ahead.
“The housing market is very late-cycle and new macro-prudential measures have just been introduced to slow such activity,” he says.
“Further, the RBA reported just last week in its financial stability review that the high proportion of households that have no pre-payment buffer for higher rates.
“It is hard to think of a more fundamental metric demonstrating that interest rates are high enough.”
Should APRA’s move to curb interest-only mortgage lending succeed in slowing housing market activity, it would certainly provide the RBA additional policy flexibility to help bolster inflation and economic activity should it be required.
While some may disagree, with unemployment sitting at 5.9% and core inflation not expected to hit the bottom of the RBA’s 2-3% inflation target until the middle of next year, it’s arguable that it already is.
Like Jarman, the admission from the RBA that developments in Australia’s labour and housing markets will “warrant careful monitoring over coming months” caught the eye of Michael Turner, fixed income and currency strategist at RBC Capital Markets, following today’s release.
“It is now hard to describe the RBA as comfortably on hold,” he says.
“There are niggling concerns that the labour market is not improving, but there are also concerns over further increases in household indebtedness.”
While he expects that upcoming RBA meetings will likely be a “non-event” as the bank tries to ascertain the trend in labour market condition and impact of APRA’s macroprudential tightening, Turner says that pressure is likely to build on the RBA to deliver additional policy stimulus.
“Should the unemployment rate remain near current levels — and the RBA’s own sub-trend growth forecasts suggest it will — a slower housing market through 2017 will put downward pressure on the cash rate,” he says.
“We continue to have this as our base case, with a final 25 basis point cut in the December quarter in our profile.”