Daily Commentary BY THE CURVE TEAM –

Monetary Policy Outlook In Focus After CPI Misses Forecast and Fed Pauses

31st of January, 2019

Monetary policy both locally and in the US have been in focus over the past 24 hours.

Offshore, the Fed held their first meeting of 2019 and, as widely expected, held the Fed Funds rate in the target range of 2.25-2.5%. Chairman Powell codified his patience message from the December minutes by adopting a “wait-and-see-approach” in response to mixed signals from the data. He even went as far as saying that “the case for raising rates has weakened somewhat”.

What was unexpected was the FOMC releasing a statement on their balance sheet normalisation plans. The Fed have changed their tone from running down the balance sheet on “autopilot”. Now, the Fed intends to keep an “ample supply of reserves” so that they can use the Fed Funds rate as the primary monetary policy tool. Chairman Powell stated that

“The implication is that the normalisation of the size of the portfolio will be completed sooner, and with a larger balance sheet, than in previous estimates.”

Locally, the key CPI figures were released yesterday with headline inflation rising 0.5% in the December quarter, slightly higher than the September quarter. This brings the annual rate to 1.8%, edging lower from last quarter’s annual rate and undershooting the RBA’s forecast of 2%. Importantly for the RBA, core inflation was 1.8%.

For the first time in 2 years, the headline figure exceeded the market expectations, albeit by 0.1%. The main contributor to inflation was the alcohol and tobacco group, which rose 3.2% over the quarter, and, out of the 11 groups, contributed to 0.22% of the change.

As expected, the fall in oil prices fed into local petrol prices and placed disinflationary pressure with automotive fuel down 2.5%.

With weaker-than-expected Q3 GDP and Q4 CPI, the RBA will need to downgrade their near-term forecast for growth and inflation due to the lower starting points. However, there is still a great deal of uncertainty over whether or not they will make any material changes to their longer term forecasts.

Neyavan Suthaharan

Client Services Officer