Weekly Market & Currency Developments – From Our Bankers

Economy may have reached gentle turning point

Reserve Bank Governor Testimony

  • Reserve Bank Governor Testimony: Reserve Bank Governor Philip Lowe has appeared before the House of Representatives Standing Committee on Economics.
Testimony by the Reserve Bank Governor can have a major impact on interest rate expectations.


What does it all mean?

  • The Reserve Bank Governor last testified on the economy in February. At that time we noted: “It is all about jobs, home prices and China. If the Reserve Bank was to cut rates it will probably take an extended China-US trade war, a fall in consumer spending due to lower home prices and a weaker job market. It is always important to remember that the Reserve Bank is forward-looking. It will have to perceive that these events are likely, prompting the need for lower interest rates.” Clearly the Governor’s testimony can be pivotal in affecting expectations. So what is the Governor saying this time?
  • The Governor believes the economy is on the right track. He is by no means super optimistic, rather cautiously optimistic, saying that the economy “may have reached a gentle turning point.”
  • One key point the Governor makes is that an unexpected lift in labour supply (rise in workforce participation and strong job growth) has meant that the unemployment rate has been higher than expected. That has meant that wage growth has been lower together with inflation, leading to lower interest rates.


Prepared comments

  • The prepared remarks by the Reserve Bank Governor can be found here. https://www.rba.gov.au/speeches/2019/sp-gov-2019-08-09.html
  • Economy: “There are signs the economy may have reached a gentle turning point.”
  • Economic growth: “Our central forecast is for the Australian economy to expand by 21⁄2 per cent this year and 23⁄4 per cent over 2020. The growth forecast for this year
    has been revised down since we met six months ago, but
    the forecast for next year is unchanged.”
  • Inflation: “Looking ahead, inflation is still expected to pick up, but the date at which it is expected to be back at 2 per cent has been pushed out again. Over 2020, inflation is forecast to be a little under 2 per cent and over 2021 it is expected to be a little above 2 per cent.”
  • Monetary policy: “In the central scenario that I have sketched today, inflation will be below the target band for some time to come and the unemployment rate will remain above the level we estimate to be consistent with full employment. While this remains the case, the possibility of lower interest rates will remain on the table. The Board is prepared to ease monetary policy further if there is additional accumulation of evidence that this is needed to achieve our goals of full employment and inflation consistent with the target. Time will tell.”
  • Stimulus: “…for every dollar the household sector receives in interest income, it pays well over two dollars in interest to the banks and other lenders. This means that lower interest rates put more money into the hands of the household sector and, at some point, this extra money gets spent and this helps the overall economy.”
  • Job market:”a higher share of the Australian adult population is participating in the labour market than ever before. This is good news. But one side-effect of this flexibility of labour supply is that it is harder to generate a tight labour market and so, in turn, it is harder to generate a material lift in aggregate wages growth.”
  • Job market: “Looking forward, while some slowing in employment growth is expected, the central scenario is for the unemployment rate to move lower to reach 5 per cent again in 2021. If things evolve in line with this central scenario, it is probable that we will still have spare capacity in the labour market for a while yet, especially taking into account underemployment. This means that the upward pressure on wages growth over the next couple of years is likely to be only quite modest, and less than we were earlier expecting.”


Questions & answers

  • The Governor noted a global structural change where there is greater desire to save and reduced desire to invest. “Investment intentions are weak”. The Governor noted that the US-China trade war is one of the factors causing a reluctance to invest.
  • Governor rejects view that lower interest rates have damaged consumer confidence.
  • Governor and Dr Lucy Ellis (Assistant Governor, Economics) responded to question about whether interest rates cuts are still stimulatory. Governor indicated he understands the impact of rate cuts on those who have significant savings through bank deposits. Dr Lucy Ellis notes a slowdown in the growth of bank deposits over the past five years.
  • Dr Lucy Ellis notes the rise in the workforce participation rate at a time when demographic factors would suggest a fall in participation.
  • The Governor said that the election had a zero impact on Board decisions. Governor notes some uncertainty at the margin about housing in the lead up to the election.
  • The Governor said the RBA won’t be increasing rates until it is confident that inflation was heading back into the target band.
  • The Governor rejects the view that the Reserve Bank has somehow failed over the past three years in achieving the 2-3 per cent rate target. It will take some time to make an assessment.
  • Because of labour force flexibility (strong growth in labour supply) the jobless rate could have been lower while wage and price growth may have been higher.
  • Governor says that RBA is prepared to do unconventional things on monetary policy should they be required: that is, interest rates near zero.
  • The Governor has tried to be as clear as possible that low interest rates will be with us for some time.
  • Governor notes that ‘forward guidance’ is another form of ‘transparency’. Governor rejects strongly the inference that the Reserve Bank is one of the less transparent central banks in the world.
  • The Reserve Bank Governor says that the country needs to do everything in its power to lift productivity as that is essential in lifting living standards.
  • Governor is hearing a lot of reports from employers that they are finding it hard to find people with the appropriate skills.
  • Tax offset payments expected to boost household disposable incomes by 0.6-0.7 percentage points with around half of the payments to be spent.


What are the implications for interest rates and investors?

  • The Reserve Bank Governor believes the economy is on the right path and that growth will pick up over 2020.
  • Unfortunately political grand-standing and point-scoring has prevented some useful important issues to be discussed in the meeting of the House of Representatives Standing Committee on Economics.
  • Experts expect the Reserve Bank to assess the impact of previous rate cuts before deciding further moves on cash rates.


Reserve Bank retains hope on the outlook

Statement on Monetary Policy

  • Reserve Bank Statement: Looking out over the next 12-18 months, the Reserve Bank tips stronger economic growth, a modest lift in inflation and slightly lower jobless rate than applies currently. So the Reserve Bank assumes that the economy is headed in the right direction.
The Statement on Monetary Policy can affect financial market pricing and it provides a roadmap for businesses.


What does it all mean?

  • Six months ago we said “It all gets down to jobs.” And that point has clearly been emphasised by the Reserve Bank in the period since. If the Reserve Bank decides to cut interest rates further in coming months it will be because there is no progress made in reducing spare capacity.
  • The latest forecasts assume a small fall in the jobless rate over the next 12-18 months with no change in inflation (2.0 per cent expected) but firmer economic growth. The forecasts assume “one 25 basis point cut in the cash rate by the end of this year, to 0.75 per cent, and a further 25 basis point cut in the first half of 2020.” The bottom line is that the economy is heading in the right direction, but it may take further rate cuts to achieve the better outcomes.
  • The forecast assumptions are important. If economic growth, inflation and unemployment don’t improve by more than expected then further rate cuts will occur. But the Reserve Bank will continue to apply pressure on governments to lift spending, especially on infrastructure.
  • The Reserve Bank Governor has today made it clear that rate cuts remain possible. All major global central banks are expected to cut rates in coming months. If global rates were headed towards zero, the Governor said that this would be something that the RBA would have to think about. The Governor stresses though that the central economic scenario was one where the economy gradually improves from here.


Key messages from the Reserve Bank report


  • Key Paragraph: “Given the current environment, it is reasonable to expect that an extended period of low rates will be needed to achieve the Board’s employment and inflation objectives. The Board will continue to monitor developments in the labour market closely and is prepared to ease monetary policy further if needed to support sustainable growth in the economy and the achievement of the inflation target over time.”
  • Global outlook: “There is considerable uncertainty about possible future tariff measures and the potential for global technological standards to become fragmented. This uncertainty has weighed on investment and investment intentions in a number of economies, and poses a significant risk to the global outlook.”
  • Inflation forecast: “inflation is still expected to drift up gradually. However, this is now forecast to take place over a more extended period than previously envisaged, because there appears to be more spare capacity remaining in the labour market than had been thought.”
  • Spare capacity: “Together, the recent data on wages, prices, output and unemployment suggest that there was more spare capacity in the economy than had previously been recognised. They also suggest that, like a number of other countries, Australia can sustain lower rates of unemployment and underemployment without running inflation risks.”
  • Investment: “The investment outlook in Australia more generally is broadly positive.”
  • Consumption: “The outlook for consumption more broadly continues to be the main uncertainty facing the domestic economy, especially in the context of ongoing high levels of household debt.”
  • Housing: “A more positive signal for future consumption is that established housing markets appear to have stabilised.”
  • Job market: “Leading indicators point to a moderation in employment growth in the period ahead.”
  • Aussie dollar: “The Australian dollar has depreciated over recent months and is at its lowest level of recent times. The depreciation over the past year is consistent with the decline in Australian bond yields relative to those in other major markets over that period.”
  • Wages: “Wages growth is expected to remain stable over the next year…there is limited upward pressure stemming from current labour market conditions and the majority of surveyed firms in the liaison program now anticipate little change in wages growth over the next year.”


What is the importance of the economic data?

  • The Reserve Bank releases its Statement on Monetary Policy each quarter. The Statement is the Reserve Bank’s assessment of economic and financial conditions and also contains the latest inflation views. The Statement is crucial in assessing the short-term outlook for interest rates.


What are the implications for interest rates and investors?

  • The Reserve Bank is expected to leave rates stable until November. At the November Board meeting the Reserve Bank will have three more months of job data as well as economic growth and inflation data.
  • Investors will need to work on the assumption that low rates are here to stay for quite some time. That will mean more money going into the sharemarket and thus changing perspectives on what is ‘fair value’ for shares (the price-earnings ratio). In other words a higher PE ratio may be considered more ‘normal’ in a low inflation/lower interest rate environment.


Investor Signposts: Week Beginning August 11 2019


Australia: Jobs and wages data dominate

  • In the coming week there will be more insights into the post- federal election economic environment in terms of business conditions and consumer sentiment. But the Reserve Bank’s laser-like focus on developments in the labour market gives the jobs and wages data top billing for investors.
  • The week kicks off on Monday when the Reserve Bank releases June data on credit and debit card lending.
  • On Tuesday the weekly series of consumer confidence will be released by Roy Morgan and ANZ. The weaker value of the Aussie dollar and recent sharemarket volatility are front-of-mind for Aussie consumers.
  • Also on Tuesday the NAB business survey is issued for July. Business confidence lifted following the federal election and the interest rate cut in June. But conditions have deteriorated sitting below the long-run average for the first time in five years.
  • Also on Tuesday, Reserve Bank Assistant Governor (Financial Markets) Christopher Kent speaks.
  • On Wednesday, monthly consumer confidence data is released by the Melbourne Institute and Westpac. Confidence fell to a 2- year low July, but the receipt of tax refunds and improving property market conditions could boost sentiment.
  • Also on Wednesday the Bureau of Statistics (ABS) releases the quarterly Wage Price Index for the June quarter. Economists forecast wages growth of 0.5 per cent in the quarter and an annual growth rate of 2.2 per cent. Subdued wages growth has been associated with low inflation outcomes, while restraining consumer spending.
  • On Thursday, the all-important jobs report for July is issued. The unemployment rate is expected to remain steady at 5.2 per cent for a fourth consecutive month with 20,000 jobs added.
  • Also on Thursday, the bi-annual average weekly earnings figures are released by the ABS, providing dollar estimates of wages in the economy across states and industries. June tourism data is released. And Reserve Bank Deputy Governor Guy Debelle delivers a speech: “Risks to the Outlook”.


Overseas: China activity data in the spotlight

  • The summer lull in US ‘Fedspeak’ and the re-intensification of the US-China trade war elevates Chinese July activity data to the top of the data dais in the coming week. US retail spending and inflation will be in focus too.
  • The week begins on Monday when the US July budget statement is issued. A deficit of US$116 billion is forecast.
  • On Tuesday, the regular weekly reading on US chain store sales is due together with data on small business sentiment and consumer prices. Shelter, furnishings, used vehicles and clothing costs all lifted in June.
  • On Wednesday, falling US import and export prices are expected to reaffirm that inflation remains tame. Weekly mortgage applications figures from the US Mortgage Bankers Association are also due.
  • On Wednesday in China, the July activity data is due. Following the upside surprise in June, a ‘give-back’ is widely anticipated as policy support fades. Local government bond issuance – a key support for infrastructure spending – has been dialled back. And retail spending may ease after strong online sales during the mid-year shopping festival. New emission standards are also expected to weigh on car sales.
  • New home price data follows on Thursday in China. Annual home price growth decelerated from 11.3 per cent in May to 10.8 per cent in June. New home prices rose in 63 cities in June.
  • On Thursday in the US, the weekly figures on jobless claims are issued, along with retail sales, factory, industrial production, homebuilder sentiment, unit labour costs, productivity and business inventories data. Solid consumer demand and confidence is driving retail spending, keeping the US expansion intact. But factory sector health is fragile with industrial production subdued and regional manufacturing readings buffeted by trade tensions.
  • On Friday, US housing starts, building permits and consumer confidence data complete the week. US consumer sentiment is near cyclical highs, supported by low unemployment and solid wages growth. The imposition of tariffs on Chinese-made consumer goods effective September 1, could eventually hit US consumers in the back pocket.


Financial markets

  • Around 80 Aussie companies are scheduled to announce earnings results in the coming week as the reporting season cranks up a gear. Companies reporting on Monday include Ansell, Argo Investments, Aurizon, Bendigo & Adelaide Bank, GPT Group and JB Hi-Fi.
  • On Tuesday: Arena REIT, Challenger and Magellan.
  • On Wednesday: Aveo, Computershare, CSL, Dexus, Tabcorp and Vicinity Centres.
  • On Thursday: ASX, Ausdrill, Blackmores, Breville, Evolution Mining, Iluka Resources, QBE Insurance, SEEK, Super Retail Group, Sydney Airport, Telstra, Treasury Wine Estates and Whitehaven Coal and Woodside Petroleum.
  • On Friday: Cochlear, Domain, Kogan.com, Newcrest Mining, Nick Scali, Spotless Group and Star Entertainment.




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