Forex Trading Library

RBA Interest Rate Preview: Expect a period of stability in rates

0 426

The Reserve Bank of Australia is set to announce the interest rate decision on Tuesday at 0430 GMT. Interest rates are expected to stay unchanged at 1.75%. Economic data has been positive since the RBA cut rates by 25 basis points on May 3rd, bringing the RBA rate from 2.00% to 1.75%. The decision in May was a close call, but the rate cut did indeed surprise, evidenced by the fact that the Australian dollar fell 2.38% on the day. May’s rate decision was partly anticipated by investors following the first quarter inflation data, released on April 27th. In the first quarter of 2015, consumer prices fell 0.20%, erasing half of the 0.40% increase seen in the fourth quarter of 2015. On a year over year basis, Australia’s headline CPI was up only 1.30%, down from 1.70% previously.

Data from the Australian Bureau of Statistics (ABS) showed that the quarterly drag in inflation came from falling prices in clothing and footwear, which fell 2.60% from the December 2015 quarter while transport fell 2.50% in the same period. Automotive fuel prices fell 10.0%, and fruit was down 11.10%. On the positive side, secondary education gained 4.60%, medical and hospital services were up 1.60% and pharmaceutical products were up 4.80%.

Australia Quarterly Inflation (March 2016 key figures). Source: Australia Bureau of Statistics
Australia Quarterly Inflation (March 2016 key figures). Source: Australia Bureau of Statistics

The May 3rd monetary policy statement by Glenn Stevens said that the 25 basis points rate cut was taken, following the information which showed that the inflationary pressures were lower than expected.

The statement said “Inflation has been quite low for some time and recent data were unexpectedly low. While the quarterly data contain some temporary factors, these results, together with ongoing very subdued growth in labour costs and very low cost pressures elsewhere in the world, point to a lower outlook for inflation than previously forecast.”

On May 17th, the RBA’s meeting minutes, however, turned out to be a surprise. Moreover, the RBA’s meeting minutes showed, “Members discussed the extent to which the CPI data provided a signal about ongoing inflation trends. They noted that CPI data were less subject to measurement error than many other key data series. Moreover, the lower-than-expected CPI outcome could not be explained entirely by temporary factors and in fact was significantly driven by low price rises for non-tradable items. That in turn was consistent with a range of data suggesting quite subdued growth in labour costs (which had also been a bit weaker over 2015 than previously expected).”

The meeting minutes concluded by noting that while members discussed the merits of adjusting policy at the May meeting or to wait for more information for acting, they were persuaded that prospects for sustainable growth and with inflation expected to return to the central bank’s target overtime would only be achieved by easing monetary policy at the May meeting.

The RBA also lowered its inflation forecasts to 1 – 2%, down from 2 – 3% in February’s statement on monetary policy.

Since May, the only significant data coming out of Australia was the trade balance and the GDP report. While trade balance did indeed narrow, it was still at the highest levels, but the silver lining was that the first quarter economic growth was stronger than expected. Australian economy expanded at a quarterly pace of 1.10%, accelerating from the upward revised Q4, 2015 growth of 0.70%.

But despite the strong headline print, wage growth continued to remain weak, in line with the RBA’s expectations. While economic data since May 3rd’s RBA meeting has not weakened materially, the central bank is expected to hold its policy steady when it meets on June 7th. Offsetting the impact of not making changes to policy, the RBA could strike a dovish note, highlighting that the central bank was keeping a close eye on wages, which could further weaken inflation expectations.

Following the June meeting, the RBA meets next on July 5th. Between now and then, home loans, May jobs report and retail sales will be the three key events that will most likely impact the July decision. Not to forget, the snap elections due on July 2nd. Missing the July window could mean that the RBA will likely hold back from making any further policy changes as the present RBA Governor, Glenn Stevens steps down, handing over the mantle to Dr. Philip Lowe (currently serving as the deputy chair of the reserve bank board) who will be taking over from September onwards.

The chart below shows the RBA cash rate futures implied yield curve, which shows another 25bps rate cut around February of 2017.

ASX 30 day cash rate futures implied yield curve
ASX 30 day cash rate futures implied yield curve
Leave A Reply

Your email address will not be published.