Daily Commentary BY THE CURVE TEAM –

How Long Can The RBA Hold On?

10th of May, 2019

The market and economist alike will be looking for answers today when the RBA releases their Quarterly Statement on Monetary Policy.

Earlier this week the RBA remained defiant, leaving the cash rate on hold, taking its stretch at 1.50% out to 33 months. The RBA continues to point to its central scenario which sees inflation rising back to the target band over the forecast period. But the question is how long are they prepared to hold out for the economy to evolve as they expect it too?

They gave a pretty clear indication of what we can expect when their forecasts are updated today from their post meeting statement on Tuesday. The statement said that:

  • the Australian economy to grow by around 2¾ per cent in 2019 and 2020;
  • the unemployment rate has been broadly steady at around 5 per cent over this time and is expected to remain around this level over the next year or so, before declining a little to 4¾ per cent in 2021;
  • the central scenario is for underlying inflation to be 1¾ per cent this year, 2 per cent in 2020 and a little higher after that.

Based on that timeline, it is going to take considerable time to for the economy to evolve in such a way that the RBA’s forecasts are achieved.

One thing that we need to remember, is that one of the assumptions that feeds into the RBA’s forecasts, is market pricing. As outlined in the last Quarterly Statement on Monetary Policy “the domestic forecasts are conditioned on the technical assumption that the cash rate evolves in line with market pricing.”

At the time of Tuesday’s meeting, presumably the same time that the RBA updated their forecasts that will be published today, were made on the assumption that the cash rate would move roughly in line with market pricing. At the time of the meeting, the market was pricing in two rate cuts.

That means that based on the forecasts above, even with two rate cuts over the next 12 months as suggested by market pricing, it is going to take almost the full forecast period for inflation to return to the target band.

So it seems that is now a matter of when, not if, the RBA will deliver a rate cut or two as market pricing suggested.

The key to the timing was revealed in the last paragraph in Tuesday’s statement which said “further improvement in the labour market was likely to be needed for inflation to be consistent with the target.”

That puts the focus squarely on next week and then next month’s employment data as a potential catalyst for the RBA. It also begs the question, if they are going to have to cut eventually anyway, why not go early? They can always reverse it if needed. Hopefully we learn more about exactly what the RBA is thinking when their Quarterly Statement is released today.

David Flanagan

Director - Interest Rate Markets