The Reserve Bank of Australia (RBA) has just released the minutes of its August monetary policy meeting and, unlike the stir created by its discussion on Australia’s new neutral cash rate level a month earlier, it’s largely in line with what markets were expecting.
Cautious optimism remains the prevailing theme, although it provided no indication that it intends to snuff out promising signals from the economy by lifting interest rates anytime soon.
If there was one surprise, it came from the omission of any broad discussion on the level of the Australian dollar — something that was always going to be a focal point for markets today given the more aggressive tone the bank used in its August monetary policy statement released two weeks ago.
“Members noted that there had been a broadly based depreciation of the US dollar over 2017, including against the Australian dollar,” the minutes read.
“The appreciation of the Australian dollar over the previous two months had resulted in it returning to 2015 levels in US dollar terms and to the levels of late 2014 on a trade-weighted basis.”
It added that its updated forecasts for GDP growth and inflation were conditioned on the assumption of no change in the Australian dollar exchange rate during the forecast period, noting that “this assumption was one source of uncertainty”.
“A further appreciation of the exchange rate would be expected to result in a slower pick-up in inflation and economic activity than currently forecast,” it said.
Not exactly a tone that expressed any significant degree of angst about the Aussie’s recent strength, scuppering expectations that the minutes may have elaborated further on what negatives a stronger currency could bring.
As a result, the Aussie dollar has popped higher in the minutes following its release.
Outside of the currency, the board also devoted a significant amount of time to discussing the outlook for Australian labour market conditions, including the outlook for wage growth.
Here’s the section of the minutes devoted to domestic labour market conditions. Our emphasis is in bold.
Members observed that recent data had suggested further improvement in the labour market. Employment had increased in every state since the start of 2017, including solid growth in the mining-exposed states. This provided further evidence that the drag on economic activity from earlier declines in the terms of trade and falling mining investment were running their course. Over this period, around 165,000 full-time jobs had been created, labour force participation had risen and average hours worked had increased.
The unemployment rate had been little changed in June at 5.6% and underemployment had edged lower over prior months. Indicators of labour demand had pointed to further employment growth and little change in the unemployment rate over coming quarters. By the end of the forecast period, the unemployment rate was expected to be just below 5.5%, slightly lower than forecast in May but still implying a degree of spare capacity in the labour market. Members observed that the recent improvement in labour market conditions and the increase in award wages should help support household incomes and thus spending. Some upside risk to spending could be envisaged if employment were to be higher than forecast. On the other hand, expectations of ongoing low wage growth could weigh on consumption growth.
More broadly, members noted there was some uncertainty about the effect any decline in spare capacity in the labour market would have on wage and price inflation. Information from liaison indicated that some employers were finding it harder to attract workers with particular skills. If this were to broaden, wage growth could increase more quickly than forecast, which would see inflationary pressures also emerge more quickly. However, wage and price inflation had not increased by as much as expected in other economies around the world that are already close to full employment, which raised the possibility that low inflation in Australia might also persist longer than forecast.
So while it remains upbeat on the prospect for labour market conditions in the period ahead, it’s still very uncertain as to whether that will translate to a pickup in wage pressures.
That means that upcoming data on hourly wage rates and average weekly earnings in the days ahead could lead to a larger-than-usual impact across Australian financial markets.
Underlining the significance of this data, the board acknowledged that its inflation forecasts partly reflect “an expectation of a modest increase in wage growth as labour market conditions tightened further”.
It also said that recent strong employment growth would likely to contribute to an “increase in household disposable income, and therefore consumption growth, over the forecast period”, although it countered that view by acknowledging that “ongoing low wage growth and the high level of debt on household balance sheets raised the possibility that consumption growth could be lower than forecast”.
Again, another view pointing to the increased importance of upcoming labour market and wage data.
To Paul Dales, chief Australia and New Zealand economist at Capital Economics, the RBA is likely to be disappointed on actual wage, inflation and consumption growth in over its forecast period.
“We will know more about what’s happening with wage growth when the wage price index for the second quarter is released on Wednesday,” he says.
“Our feeling is that the economy isn’t strong enough to generate much wage growth and the big structural forces that have kept wage growth lower in other economies will keep it low here too.”
Dales expects consumption growth and inflation figures to undershot the RBA’s optimistic expectations, something that he says explains it’ll be unlikely to hike rates next year as the markets expect.
On the other key areas for policy consideration — the inflation outlook, housing market conditions and financial stability concerns — the minutes largely communicated what the markets already knew.
In relation to inflation, it said that it “was still expected to increase gradually as the economy strengthened”, mirroring the forecasts offered in its recent statement on monetary policy.
As it has previously said, it also acknowledged that conditions in the housing market and household balance sheets as “continuing to warrant careful monitoring”.
“Taking account of the available information and the need to balance the risks associated with high household debt in a low-inflation environment, 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,” it concluded in the final paragraph of the statement.
While that indicates that financial stability concerns will likely prevent the board from reducing interest rates any further in the absence of an unexpected downturn or shock, it also implies that rates are unlikely to shift higher for the foreseeable future.
Given the RBA’s increased dialogue surrounding wage growth, and its expected impact on inflationary pressures and the outlook for household spending, it appears that labour market conditions are now nudging ahead in terms of the most important area for policy consideration given signs that housing market conditions are now starting to cool.