Key insights from the week that was.
The RBA surprised markets this week by slowing the pace of rate hikes, opting for a 25bp move against expectations of a 50bp increase. Meanwhile, the RBNZ continued to show a heavy hand against domestic inflation pressures, having delivered a fifth consecutive 50bp rate hike.
In explaining their decision to raise the cash rate by only 25bp to 2.60% at their October policy meeting, the RBA referenced the considerable amount of financial tightening that has already been implemented, a total of 250bps to date. While the Board were cognisant of the domestic risks around inflation; consumer spending; housing and the labour market, a greater emphasis was placed on concerns around the deterioration in the global economy, likely in response to recent volatility within financial markets. As discussed by Chief Economist Bill Evans, we saw that developments in the global economy actually favoured a larger increase at the October meeting, given the strength of US consumer inflation and it’s expected consequences of a more aggressive tightening cycle from the Federal Reserve, and hence further upward pressure on global interest rates.
The Board has clearly signalled the need for further increases in the cash rate over the period ahead, the pace of which will remain at 25bp increments given that policy has now reached a broadly neutral level. This will allow the RBA to more closely assess the impacts of the cumulative rate hikes to date as monetary policy continues to lift further into contractionary territory. We continue to expect a peak cash rate of 3.60%, to now be achieved with 25bp rate hikes over the next four policy meetings, reaching that level by March 2023 (prev. February 2023).
Having said that, we believe that the effects of financial tightening will be much greater than the RBA expects. This will materialise in 2023 as a slowdown in consumer spending to an anaemic rate (1.2%yr), a sharp turnaround in business investment (-1.0%yr) and a notable decline in dwelling construction (-4.0%). Ultimately, growth is expected to decelerate sharply in 2023 (to 1.0%yr) and the unemployment rate will continue to rise through 2023 and 2024 (to around 5%). A detailed exploration of our own views on Australia and the global economy will be released today in the October edition of Westpac’s Market Outlook available on Westpac IQ.
Housing data released for Australia this week was mixed but consistent with our overall view of the economy. The correction in house prices was shown to have deepened and broadened across the country, with capital city prices falling by 1.4% in September, rounding out a 4.3% decline in Q3. Indeed, housing finance approvals also continued to mirror the broader correction to date, with further declines across investor and owner-occupier loans signalling a clear moderation in housing credit moving into year-end. In contrast, the often volatile dwelling approvals data surprised to the upside in September, more than reversing July’s 17.2% decline with a 28.1% rebound. Given the extreme volatility of this series, the focus needs to be on quarterly trends. The September result was not only driven by a surge in the volatile high-rise units segment, but also an unexpected resilience among non-high rise segments which are at the centre of many cost and profitability issues facing the housing sector. Pipeline delays are likely providing some near-term support to building activity, though the RBA’s tightening cycle will begin to act as a drag on new dwelling investment into the medium-term.
Across in New Zealand, the RBNZ’s laser-focus on domestic inflationary pressures was again evident at their October policy meeting, having delivered a fifth consecutive 50bp rate hike. As detailed by our New Zealand economics team, despite the lack of clarity around the expected peak in the Official Cash Rate, the Committee noted a debate between a 50bp or 75bp rate hike, a more hawkish shift which signals a higher peak for the cycle. Westpac continues to expect a peak in the Official Cash Rate of 4.50%, involving two further 50bp rate increases in November and February.
On the international front, data releases were relatively light. Markets’ attention was therefore centred on the US labour market in anticipation of September’s employment report, due for release later tonight. Partial data received this week produced relatively mixed signals though: JOLTS job openings posted a sharp decline in August, albeit from still elevated levels; meanwhile, the ISM services PMI reported a strengthening in employment in services, a sector which constitutes a consistently significant portion of the payrolls data. On balance, broader labour market indicators suggest that momentum in the labour market has begun to ease from the considerable strength seen earlier this year. However, with the FOMC set to deliver a further 150bps of tightening to a peak fed funds rate of 4.625% that will be held through next year, the labour market will exhibit a clear weakening in 2023 and 2024 with the unemployment rate to rise in the order of 2ppts.