Australia | Nov 08 2006
By Greg Peel
“The world economy has grown strongly in 2006 and is generally expected to grow at an above-average pace in 2007. Although growth in the United States has moderated recently, strong conditions are prevailing in other parts of the world. The global expansion has contributed to high levels of commodity prices, which continue to add to incomes and spending in Australia.”
This formed the backdrop for the RBA’s rate rise decision made yesterday. As inflation is the RBA’s worst enemy, there is nothing in this macro comment to suggest that pressure has eased significantly.
Unfortunately for farmers, and contrary to some last-minute economist views, the drought is not expected by the RBA to have significant enough an impact on economic growth. With that said, we’re simply back to inflation.
The RBA notes domestic demand is still strong, labour market conditions are still tight, and capacity utilisation is still high. Although the demand for credit has eased slightly, it’s still growing a-pace.
Inflation has at least moved back down toward the top of the comfort zone at 3%, but given the above, the RBA expects this level to be maintained for a while. It does note, however, that those factors creating strong CPI numbers earlier in the year will soon reverse, but PPI (wholesale) numbers in the September quarter still point to ongoing price pressure. Wage growth is no longer accelerating, but it is positive nonetheless.
The RBA sees no reduction in inflation to comfort levels in the medium term. It does, however, believe that at 6.25% monetary policy is now “somewhat more restrictive”. It has noted that the effects of the previous two hikes are now being felt, particularly with regards to household credit.
A “restrictive” policy is seen by the RBA as a means to control inflation over time, and this is one comment economists have highlighted in their responses.
Commonwealth Bank notes the consensus has tended towards no further rise next quarter anyway, but this has been a trap all year. The market is currently applying around a 40% chance, although we’ll need to see how today’s trading pans out. The economists see capex spending and export growth as the key economic drivers ahead. The housing market is only subdued at best, although household budgets are under definite strain. It will yet come down to the data from here, particularly the labour market numbers.
Commonwealth sees the inflation numbers just slipping back into the comfort zone next quarter. If unemployment has indeed levelled out, as data suggests, then 6.25% should be the peak rate.
ANZ Bank suggests: “While the RBA will continue to lean against inflationary pressures with strong rhetoric, the softer growth outlook means the bar to justify another policy move is now considerably higher.”
ANZ notes non-farm growth is slowing, business investment is plateauing, retail spending is softening, and the commodities boom has peaked (contrary to the RBA’s opinion). The economists believe the RBA will sit back and watch for a while.
CommSec chief economist Craig James had already made it known that he thought a November hike is not the way to go. He now notes:
“Monetary policy is now clearly contractionary, or acting as a braking force on the economy. It’s not just the fact that interest rates are the highest in almost seven years but the fact that the economy is more sensitive to interest rate changes than at any point over the past decade. The new cash rate of 6.25 per cent is now well above the average rate of 5.15 per cent recorded over the past five years.”
James expects inflation will fall back to 2% by the middle of next year, and that economic growth will slow markedly. He does not see another hike on the horizon.
HSBC has stated bluntly “no threat of more to come”. The focus will now switch to fiscal policy, economist John Edwards suggest, which puts Peter Costello between a rock and a hard place. If he brings down an expansionary budget next year – an election year – in order to curry favour with the electorate, then the chance of another rate rise increases. HSBC clearly doesn’t believe he will. January will see a fiscal update statement from the Treasurer.
Just when you thought consensus implied no further hikes, along comes Westpac. In stark contrast, Westpac’s economists state:
“This statement leaves the door open for further rate hikes. We have been of the view that the risks of a follow-up move in February are around 50-50, and this statement probably pushes those odds further in favour of another move.”
Chief economist Bill Evans believes inflationary pressures will remain apparent through the December quarter. Despite an apparent slowing in the falling unemployment rate, Evans suggests this would have to noticeably reverse in order to prevent another rate rise as early as February, and he can’t see that happening. He highlights RBA comments that the labour market is still tight.
Where does this all leave us? In the usual place, it seems – no idea.
There is probably a law somewhere that says economists are obliged to have diametrically opposed views wherever possible, but the fact remains the data are inconclusive, with some moving one way and some the other. The best we can do is take new data on a case by case basis, and watch which way the odds turn.