Australia | May 19 2009
By Greg Peel
The minutes of the early May meeting of the Reserve Bank of Australia board were released today. The board went into the meeting knowing economists mostly were not expecting a rate cut. That expectation could be largely condensed into two factors. Firstly, stock markets had rallied strongly. Secondly, inflation was still holding up despite the deflationary effect of the GFC.
The minutes show the board spent a good deal of time discussing the litany of disaster that is the global economy, with particularly weak first quarter GDP estimates being posted in all of the US, Europe, the UK and Japan. Moreover, international bodies had continued to downgrade their growth expectations. While still expecting the beginnings of a recovery by the end of this year, growth was expected to remain tepid and below-trend for some time yet.
The only bright light was China, in which economic data had showed a surprising bounce-back to strength. The RBA took this on board but not without an element of caution. One swallow does not a summer make:
“In contrast, recent data in China had been much more positive. Output growth had picked up in the March quarter, after a substantial slowing in the second half of 2008. Industrial production had also recorded a significant increase recently. For members, a key question was whether this was due to domestic demand, reflecting the large public investment program, or a build-up in inventories. At this stage the answer was not clear.”
For Australia, the prognosis was not exactly a strong one either. While indicators had stopped weakening they still remained undeniably weak. The RBA is nevertheless retaining its forecast that the local economy will also begin to see a recovery by the end of this year in concert with other developed economies, and that Australia was still better placed than most. (The government later offered a more lengthy recession forecast, but that was only politicking to sell a big budget deficit).
On the inflation front, while the PPI and CPI numbers were holding up the RBA was nevertheless unconcerned, believing a return to only stunted growth until at least 2011 will mean excess under-utilised capacity will keep inflation under control. This removed the inflation factor. On the basis of all of the above, one might have been forgiven for expecting a rate cut to follow.
But the clincher was the improvement in financial markets. Stock markets are simply a forward indicator of economic health, and the RBA acknowledged the overall improvement in global economic data, particularly in the US, which hint of signs of stabilisation. Importantly, credit markets have appeared to have thawed somewhat:
“Conditions in global money markets had improved noticeably, with short-term spreads having fallen back to close to the levels prevailing prior to the Lehman collapse. In Australia, spreads between bank bills and the expected policy rate were near the lowest points seen since the onset of the financial crisis.”
All up, the board suggested:
“The wide range of economic data considered by the Board generally pointed to some improvement in confidence and economic activity in a number of countries. The strongest signs were in Asia, with production in China rebounding particularly quickly. While it was too early to be confident about the durability of this trend, the evidence was accumulating that the maximum rate of global economic contraction may have passed.”
The stock market was indicating more confidence, Asia was looking healthier, and in Australia, early signs indicate the stimulus measures are having a desired effect. With this in mind the board decided:
“Taking into account the economic and market developments that had come to light over the past month, the major easing in monetary policy that had already taken place and the substantial fiscal stimulus that was being implemented, members judged that the best course for this meeting was to leave the cash rate unchanged. They would continue to monitor the strength and durability of the tentative signs of an improvement in the global and domestic economies.”
In other words, if this rally – and thus general signs of economic stabilisation – has legs, then the RBA will probably be content to sit on its hands for now. At least until early confidence shows signs of fading. So if it turns out to be “Sell in May”, June or July might yet bring another rate cut. In the meantime, it’s “on hold”.