The RBA Board has softened its clear tightening bias but not enough for Westpac to change its view that we can expect one final rate increase at the May Board meeting.
The Reserve Bank Board decided to leave the cash rate unchanged at 3.60% at its April meeting. This decision is in line with Westpac’s forecast although we continue to expect to see one final increase of 0.25ppts at the May Board meeting.
The decision is consistent with the classic approach that policy needs to move swiftly to push rates into the contractionary zone but, once there, a central bank that meets as frequently as the RBA can pause to assess the cumulative impact of the policy.
There was a subtle change in the Governor’s guidance. In March he noted that: “further tightening of monetary policy will be needed”. In April, this was changed to: “further tightening of monetary policy may well be needed”.
This is a softer guideline than we saw in March but still qualifies as a clear tightening bias.
The decision to pause is justified by the need for “more time to assess the state of the economy and the outlook, in an environment of considerable uncertainty.”
The ‘check list’ going forward remains: “the global economy, trends in household spending, and the outlook for inflation and the labour market.”
Of most importance will be the March quarter inflation report, due April 26, which Westpac expects to show a trimmed mean inflation print of 6.6% for the year.
At the May meeting the Board will also receive a refreshed set of economic forecasts from the staff. We do not believe that the revised forecasts will bring forward the timing at which the staff expects to return to the 2-3% target zone – mid 2025!
Along with the economy still operating with a near 50-year low in the unemployment rate and the slow expected progress in achieving the inflation target, we continue to expect that the Board will see the need for one final 0.25ppt increase in the cash rate.
Apart from the key guidance language there were some less significant examples of a more cautious Board although the key themes around high inflation and tight labour markets continued to shine through.
“There is further evidence that the combination of higher interest rates, cost of living pressures and a decline in housing prices is leading to a substantial slowing in household spending.” This indicates that the slowdown that was apparent in the December quarter from the national accounts has extended into the March quarter.
Note that consistent with the slightly more dovish approach is no recognition of the recent stabilization of house prices.
In March the Governor highlighted that “Services price inflation remains high”. In April, there was no reference to services price inflation. Services inflation is accepted as the stickiest component of inflation so excluding a mention of services inflation may indicate less concern.
Recent disruptions to the US banking system are highlighted as “an additional headwind for the global economy” whereas this is contrasted with the strong Australian banking system.
On the other hand, there was an additional qualification to the assertion in March that “wages growth is still consistent with the inflation target” with the April statement noting “wages growth is still consistent with the inflation target, provided productivity holds up”
The final paragraph is also pitched at the likely need for higher rates. The Board retained the assertion “ In assessing when and how much further interest rates need to increase …” It could have qualified that sentence with “ if interest rates need to increase” rather than maintaining “ how much further.”
Conclusion
While the Board’s tightening bias has been softened in parts, in the April decision statement, there is not sufficient evidence for Westpac to change its forecast that the Board will make one last 0.25ppt increase in the cash rate at the May Board meeting.
That decision will be in the context of underlying inflation holding well above the target level, only slowing moderately, in an economy where the unemployment rate remains near 50-year lows and dismal productivity exacerbates the eventual impact of wages growth on inflation.
