Cliff Notes: Mulling the Minutes

Key insights from the week that was.

The only data release of note in Australia this week was the October Westpac-MI Consumer Sentiment Survey, which reported a 4.7% drop in the headline index. At 80.4, sentiment has tumbled back to deeply pessimistic levels, similar to the post-pandemic cost-of-living shock when readings were among the weakest in the survey’s more than fifty-year history. Indeed, inflation and interest rate pressures are once again clearly front of mind for consumers, with both the view on ‘family finances vs a year ago’ and ‘family finance next 12 months’ falling 8.0% and 6.4% in the month, respectively. Moreover, the RBA’s September rate hike looks to have had a significant impact – sentiment tanked 20% between those surveyed before the RBA decision and those surveyed afterwards.

Views on the economic outlook were relatively more resilient, but they still weakened, with the one-year and five-year ahead sub-indexes falling 1.6% and 0.4% respectively. Consumers are becoming more ‘on edge’ about job security, albeit not outright alarmed. The unemployment rate remains relatively low versus history, although it has drifted up to a cycle high of 4.6% as labour supply continues to outstrip demand. We expect it to hold there in next week’s September Labour Force Survey – see our preview for more detail. All told, with higher interest rates, renewed inflation pressures and a softening jobs market all weighing at once, households are entering the final months of the year on the back foot.

Offshore, the focus was on US data.

Before turning to this week’s releases, it is worth noting that September non-farm payrolls came in softer than expected across most metrics. Employment rose by only 29k (89k expected), and there were sizeable downward revisions to prior months, with a combined 60k removed from July and August payrolls, leaving gains of just 31k and 29k respectively. The details pointed to weaker hiring in leisure & hospitality and education & health services industries, although construction and manufacturing employment continued to benefit from ongoing data-centre-related investment. The unemployment rate edged up to 4.2%, with softer employment occurring alongside a rise in labour force participation to 61.8%. Meanwhile wage growth moderated to 0.1%mth (3.0%yr). Taken together, the report suggests labour demand is cooling, with the three-month average pace of job creation slowing to around 50k. However, softer payroll gains are not necessarily indicative of labour market deterioration. Lower immigration and ageing demographics have reduced the pace of employment growth needed to keep the unemployment rate stable. As such, the report is more consistent with a labour market that is gradually normalising than one entering a meaningful downturn.

The September FOMC minutes reinforced a distinctly hawkish message, with participants noting they had “not seen sufficient progress on lowering inflation in recent months” and expressing concern that inflation risks remained “skewed to the upside”. Policymakers highlighted that both core services and core goods inflation remained elevated, with some attributing persistent goods price strength to the effects of the AI buildout despite the sector’s traditional disinflationary role. There was also concern that, after more than five years of inflation above target, elevated inflation could begin to influence inflation expectations and wage- and price-setting behaviour. In contrast, labour market conditions were generally viewed as stable and “close to maximum employment”. While a majority noted the labour market had strengthened somewhat recently, several participants highlighted unusually low dynamism, characterised by low hiring, low layoffs, a low job-finding rate and elevated long-term unemployment. Importantly, participants generally judged that aggregate wage growth was moderate and “consistent with inflation moving toward 2 percent”, with several explicitly noting that “the labor market was not currently a source of inflationary pressures”.

A key focus was the interaction between AI investment, productive capacity and inflation. While participants broadly expected AI-related investment to boost productivity growth and potential output over time, several warned that “the AI buildout could cause aggregate demand to outpace aggregate supply over the medium term, putting upward pressure on inflation”. Consistent with this view, some participants had raised their estimate of the neutral policy rate and several judged the current policy stance to be “not restrictive or only mildly restrictive”. Against this backdrop, all participants supported the September rate increase, and most assessed that another increase in the federal funds rate would likely be appropriate by year-end, although future decisions would remain data dependent.

The September ISM Services PMI released this week painted a similar picture of an economy that remains resilient but is gradually losing momentum. The headline index eased to 54.9 from 55.4 in August, with the decline driven by a sharp fall in business activity and a 9.4pt drop in new export orders, which slipped into contractionary territory for the first time in eight months. Labour market conditions improved modestly with the employment index moving to broadly neutral territory 50.1 after two months below 50, supported by elevated backlogs and still-solid demand. Respondent commentary illustrated the mixed nature of labour demand, with some firms reporting they were “filling positions vacated due to promotions or retirements”, while others cited “restructuring due to efficiencies gained using AI tools”. Cost pressures also remained elevated, with the prices paid index rising to 74.0, its highest level since July 2022 and around 18pts above its historical average, while fuel costs, tariffs and supply chain constraints remained the most frequently cited concerns. Overall, the report suggests services activity remains consistent with ongoing expansion, albeit at a slower pace, while labour demand and pricing pressures remain firm.

Overall, the data supports our view that the FOMC will move to a broadly neutral policy stance by the end of the year with one more rate hike, although the case for a back-to-back move in October has become less clear cut.