- RBA Minutes reprise the ‘hawkish hold’ message from June’s decision statement.
- Some notable observations on housing and data centre build but central narrative unchanged.
- Deputy Governor Hauser’s recent speech and accompanying RBA research underscore risks around tight capacity and possible shift in price-setting behaviour.
- Q2 CPI remains critical, with a lot riding on how this and the balance of risks to the outlook are judged.
RBA Minutes released today and other commentary over the last week suggest the Monetary Policy Board is still on edge about inflation risks in Australia.
The advent of post-meeting media conferences means the minutes to RBA meetings are of less importance than they once were. However, they still serve to remind us of the key considerations for policy. Read alongside last week’s speech by the Deputy Governor and a series of RBA insight notes, the latest Minutes suggest the Bank is still on heightened inflation alert.
The central narrative through the meeting Minutes is, unsurprisingly, the same as that set out in the decision statement and in the Governor’s post-meeting press conference. The economy is still seen as tight, i.e. “operating with excess demand and widespread inflationary pressures”. However, the Board opted to use the ‘space’ provided by previous rate rises, pausing in June to get a better sense of how the situation was unfolding in the Middle East and how previous rate rises were impacting locally.
There were some interesting tidbits in the detail though, including:
- Financial conditions are now seen as restrictive. While the conviction here is not high (“probably somewhat restrictive”; “remained uncertain”) it is a little more forthright than the decision statement which simply stated that conditions were now tighter. That uncertainty may also be partly due to staff updates on the RBA’s modelled estimates which pointed to a slightly higher real neutral rate compared to when the cash rate was last at 4.35% (at the start of last year).
- Housing market developments were largely absent in the decision statement but featured a few times in the Minutes, including in the ‘Considerations for Monetary Policy section’ (“Housing demand had eased, which also reflected the broader economic environment and recently proposed tax changes”; and “Members also noted the risks associated with a potentially material weakening in housing markets, including if this were to inhibit growth in consumption”). Likewise, the data centre investment surge rated a mention in the main assessment section as well (“[Members] discussed the potential for continued strength in such activity to exacerbate capacity pressures and skills shortages in other parts of the economy”).
While neither topic is a central concern for the Board right now, they are on the radar.
Also of some note were the areas where views within the Board differed. In particular, there were “somewhat differing views about the extent of current capacity pressures”. As we have discussed in the past, this likely centres on assessments of slack in the labour market. That would seem to be the case given that members still assessed that persistently weaker-than-expected productivity growth was a problem for bringing inflation back to target.
The other notable point of difference was on the extent to which the Fair Work Commission’s moderately higher than expected 4.75% increase in all modern award wages might indirectly influence other wage negotiations. Again, views on the impact differed but Members agreed that it would “depend in part on the tightness of the labour market and expectations for inflation”.
Coming back to the central narrative of tight capacity and persistent inflation, the RBA deliberations here have been given some additional framing by the Deputy Governor and a series of RBA ‘insight’ notes. Titled “The Straight Line Belongs to Man, the Curved Line Belongs to God”, Deputy Governor Hauser’s Sir Douglas Copland Memorial Lecture, delivered to the Economic Society of Australia last week, was a little more technical than the ‘fireside chats’ and speeches that have been used to shape mainstream and financial market expectations. However, it focussed on two areas that are extremely pertinent to the Board’s current deliberations, namely: 1) the sensitivity of inflation to shocks when capacity is tight; and 2) potential changes in price-setting behaviour. The ‘straight lines’ and ‘curves’ being discussed were those showing the relationship between unemployment and wage growth or price inflation, and between cost and price changes. And the question is to what degree do these relationships become ‘curvier’ as unemployment falls/capacity tightens.
The Deputy Governor spelled out the clear takeaway for monetary policy: that inflationary pressures are likely to be higher for a given change in activity if; 1) domestic capacity pressures and inflation are already elevated; and/or 2) cost shocks are large or persistent; and/or 3) inflation expectations are elevated. From here the Deputy Governor concluded that “non-linearities in the Phillips curve suggest that policy should respond proactively to an inflationary shock when we are already on the steep part of the curve – and that is what the Monetary Policy Board has done in recent months.”
The insights notes expand on this a little, in an even more technical manner. Some notable points are that:
- the RBA’s models currently incorporate some non-linearity (i.e. curviness) in the relationship between unemployment and wage costs/inflation but not in price-setting behaviour which means the latter will be a key area of judgement for policy making (informed by liaison);
- there is clear evidence that price-setting behaviour did change during and after the pandemic, adjusting more frequently from 2022;
- this increased price flexibility is estimated to account for 0.4-1.3ppts of the gap between modelled estimates and the actual peak in inflation 2022-23; and
- that the way the policy trade-off between inflation and unemployment shifts when prices are more flexible means policy can focus more closely on the inflation part of the mandate (the idea here being that inflation declines will also be associated with more muted rises in unemployment).
All up, the RBA minutes and other communications again point to heightened concerns about persistently above-target inflation. We already knew the June quarter CPI release on July 29 would be the critical piece of domestic information heading into the RBA Monetary Policy Board’s August 10-11 meeting. However, the latest RBA communications make it clear that aside from this, the key judgements will be around the scale and persistence of shocks emanating from the Middle East, and whether price setting behaviour has shifted.
On balance, we continue to see high inflation and an unacceptably slow return to target as drawing additional interest rate rises from the RBA – but depending on how the inflation data, geopolitics and key judgements land, that balance could be a close-run thing.
