Daily Commentary BY THE CURVE TEAM –

RBA’s Confidence Waning as Risks to the Outlook Grow

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The RBA’s confidence in their central outlook is starting to wane. The minutes from their July meeting retained the same optimistic conclusion we have become accustomed too. However the language used throughout the minutes suggests that it is only a matter of time until that optimism disappears.

The subtle language shifts from the RBA’s July Board meeting minutes were evident when discussing both the core outlook as well as the risks to that outlook. The RBA’s confidence in the domestic outlook and expectation that unemployment will eventually fall enough to boost wages and inflation softened from recent communiqué.

When you overlay that softening in confidence in their core outlook growing evidence that the risks to the outlook are becoming more prevalent, the recent moves in market pricing for the cash rate are increasingly justified.

On the risks to the outlook, the minutes said that (my bolding throughout)“some of the downside risks to the global growth outlook had increased over the prior month”. More specifically, they said that:

“Members noted that trade tensions extended beyond the United States and China, and could escalate through non-tariff measures such as administrative delays. An escalation of trade tensions could harm global growth by undermining confidence and delaying investment decisions and could dampen international trade.”

It is still unclear how the trade tensions will unfold as Trump is increasingly volatile in his approach and is flip flopping over a number of issues. While risks in the international environment will continue to evolve, it is the domestic outlook where the greater concerns are.

During the meeting, the RBA Board discussed the special paper on household debt in Australia and it highlighted how big the risk the record level of debt poses to the long term health of the Australian economy. On the special report, the minutes said that:

“Members noted that high levels of household debt could affect economic outcomes. For example, households with high debt levels are more vulnerable to economic shocks and therefore more likely to reduce consumption in the face of uncertainty about their future income. Members also noted that changes in interest rates have a larger effect on disposable income for households with high debt levels, but that these households may be less inclined to borrow more at times when interest rates fall. Accordingly, members agreed that household balance sheets continued to warrant close and careful monitoring.”

The consumer poses the biggest threat to the outlook. Persistent low wage growth and record debt are clearly worrying the RBA. Add to that falling house prices and tight funding markets that are pushing up borrowing costs and the concerns are set to get much worse.

Those concerns are clearly evident in the closing paragraph to the minutes where the RBA sums up their outlook. The words I have bolded tell the story:

“Inflation remained low, reflecting low growth in labour costs and strong competition in retailing. Members continued to view the strengthening economy as likely to deliver further progress in reducing the unemployment rate and returning inflation to target. In these circumstances, members continued to agree that the next move in the cash rate would more likely be an increase than a decrease. However, since progress towards a lower unemployment rate and an inflation rate closer to the midpoint of the target range was likely to be gradual, they also agreed there was no strong case for a near-term adjustment in monetary policy.”

The RBA set to release their quarterly statement on monetary policy the Friday after the August meeting. It will be interesting to see their updated forecasts in light of the waning confidence in their core outlook and growing risks.

David Flanagan

Director - Interest Rate Markets