RBA: Not all doom and gloom

RBA Statement on Monetary Policy

  • The Reserve Bank has significantly slashed near term forecasts for economic growth and inflation.

  • The central bank confirmed that the 20 per cent slump in the Australian dollar has helped cushion the impact of the global crisis. While fiscal stimulus and rate cuts will help to insulate the Australian economy from the possibility of a recession.

  • The Reserve Bank noted a significant fall in business investment intentions. However expects some recovery in residential contruction in 2009. CommSec expects the Reserve Bank to cut cash rates by a further 50-75 basis points in the next two months. At which point rates are likely to reach a low point in the current cycle.

What does it all mean?

  • The Reserve Bank has significantly downgraded economic growth over the coming year. The profound global recession is likely to see the Australian economy virtually come to a standstill in mid 2009, registering growth of just 0.25 per cent over the year to June 2009. Importantly, the central bank is still quietly confident that the Australian economy will stave of a recession, with growth expected to pick up towards end year.

  • It not all gloom and doom from the Reserve Bank, as they highlight a raft of positive influences. They note that monetary policy continues to work. The weaker Australian dollar has also had the impact of cushioning the Australian economy from the global crisis. While the recent fiscal stimulus plan should play a significant role in keeping the economy from contracting.

  • Inflation is well and truly not a concern for the Reserve Bank. The weakening in global demand has seen inflation forecasts revised substantially lower. Inflation forecasts for mid 2009 have been cut by 1¾ of a percent and underlying inflation is expected to end up back within the target band of 2-3 per cent by early 2010.

  • Unlike other central banks, the Reserve Bank doesn’t openly come out and say that interest rates are going to be cut. And this time round, the Central Bank interestingly did not give any indication of what lies ahead for interest rates. While the central bank notes that substantial rate cuts have been implemented it falls short of saying that the low point for interest rates has arrived and with the domestic growth forecasts cut significantly it is likely that further rate cuts are on the agenda.

  • The Reserve Bank is clearly being prudent, believing that it has done enough for the time being, however a further downward leg in the global economy may require added stimulus.

  • CommSec expects the Reserve Bank to cut the cash rate by another 50-75 basis points over the next two months. More than likely the Reserve Bank will follow a similar pattern to that noted by the European Central Bank and keep rates on hold in March, assess all the incoming data before cutting rates once again in April.

  • No doubt the Reserve Bank would have been heartened by the fiscal stimulus package announced earlier in the week. The lack of expenditure in the private sector, and waning external demand, growth in the near term is likely to centre on public expenditure. The current fiscal stimulus will no doubt go a long way in reducing recessionary risks to the domestic economy.

What do the figures show?

  • The Reserve Bank (RBA) has indicated that in the near term the outlook for the global economy remains dire: “the short-term outlook has clearly weakened over the past few months and official and private-sector forecasts of world growth in 2009 have been revised significantly lower. At this stage it appears likely that global conditions will remain very weak for at least the first half of 2009...”

  • The Reserve Bank notes that the deterioration in the external environment continues. But the Bank also notes the swift and significant responses by Governments around the world in applying fiscal and monetary stimulus and in relation to growth that “there may be some pick-up later in the year as the expansionary policy measures take hold”.

  • The RBA says that the household sector is noting a significant improvement in disposable income “In the household sector, disposable incomes are being boosted by the combination of fiscal payments, lower petrol prices and, for indebted households, lower interest rates. After showing little net growth for some months, retail sales picked up significantly through the December quarter… The interest rate cut and fiscal measures announced in early February will be adding further to household incomes in the March and June quarters this year”

  • The Reserve Bank highlighted the underlying strength in the labour market however is flagging the risk of higher unemployment: “The labour market has been reasonably resilient to date, with the unemployment rate remaining close to generational lows. Nonetheless, labour market conditions have begun to soften in response to the general slowing in demand and activity. Employment growth slowed in the December quarter and the unemployment rate has been edging up. With job vacancies and hiring intentions falling and short-term economic prospects subdued, more significant rises in unemployment are likely in the period ahead”

  • The RBA now expects the economy to grow by 0.25 per cent in 2008/09, down from its previous forecast of 1.50 per cent set three months ago. And inflation is expected to ease to 1.75 per cent by June 2009, down from its previous forecast of 3.00 per cent. Lower petrol prices are one factor behind the better inflation outcome however the central bank notes an easing of underlying measures. “earlier pressures on productive capacity are now easing” and “a range of measures confirm that some moderation in inflation is also occurring in underlying terms”. The RBA now expects underlying inflation to be back in the 2-3 per cent target band in early 2010.

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 is assessing the short-term outlook for interest rates.

What are the implications for interest rates and investors?

  • The Reserve Bank has noted a pick up in consumer sentiment in recent months and a significant improvement in disposable household income. However the concern for the economy is the pull back in business investment plans, and the substantial downward revisions to domestic growth forecasts.

  • CommSec expects further rate cuts over the next couple of months. A 50-75 basis point cut has been factored in for the next two months, bring the cash rate to low point of 2.50 per cent in the current cycle.

Source Craig James, Chief Equities Economist, CommSec