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Clearing Major Support


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Needle Still Points North

--Labor Data To Be Single-Most Important Driver of RBA Policy
--Household, Business Sentiment Disconnect Also Important For Policy
By Sophia Rodrigues
     SYDNEY (MNI) - Patience has been the cornerstone of the Reserve Bank of
Australia's monetary policy stance for nearly a year and the outlook for policy
will depend on whether the labor market puts that patience to test in coming
     The monthly labor force survey published by the Australian Bureau of
Statistics is therefore likely to be the single most important set of data
driving monetary policy. Other data on the exchange rate, wage growth,
inflation, retail trade and the housing market will continue to be important but
mostly as either a driver or consequence of developments in the labor market.
     Earlier this month, Governor Philip Lowe admitted the RBA has been
deliberately patient with monetary policy -- resisting a cut in the cash rate to
cause a faster rise in inflation -- and instead focusing on risks from high
household debt. Key to that patience has been the improvement in the labor
market seen so far this year.
     "Since August last year, the Reserve Bank Board has held the cash rate
steady at 1.5%. This setting of monetary policy is supporting employment growth
and a return of inflation to around its average rate of the past couple of
decades," Lowe said in his opening statement at the Parliamentary testimony on
August 11.
     "The Board is seeking to do this in a way that does not add to the
medium-term balance-sheet risks facing the economy," he continued. "It has been
conscious that a balance needs to be struck between the benefits of monetary
stimulus and the medium-term risks associated with rising levels of debt
relative to our incomes."
     "As a result, the Board has been prepared to be patient. The fact that the
unemployment rate has been broadly steady has allowed us this patience. We have
preferred a prudent approach, which is most likely to promote both macroeconomic
and financial stability consistent with the medium-term inflation target," he
     The improvement in the labor market is key because of the impact it would
have on household income growth. That income growth is important not just for
household spending, and thus growth in the economy, but also because of the
favorable impact it would have on the household debt-to-income ratio -- the
latter of which has been the RBA's main area of concern in the past year.
     The unemployment rate has inched down to 5.6% in July from 5.7% in August
last year. The drop is small but it masks a significant improvement in the labor
market in that period. The employment-to-population ratio increased to 61.5%
from 61.0%. The number of employed grew around 252,000 due mainly to a 196,000
rise in full-time jobs, while the number of unemployed rose just 14,000 as the
participation rate rose to 65.1% from 64.7%.
     The rise in mainly full-time employment has meant there has been a growth
in overall income even though wage growth rate has been subdued at record lows
of 1.9% y/y.
     This growth in income and the gradual removal of spare capacity through the
rise in employment has allowed the RBA the luxury of patience. 
     The RBA is forecasting further improvement in the labor market and hoping
it would lead to a faster growth in wages, which would support not just
household consumption but also accelerate inflation.
     That forecast is based on business conditions that would be well-above
average, leading to an expectation that stronger demand will induce further
employment and eventually lead to stronger non-mining investment growth and thus
acceleration in the economy's potential growth.
     Other factors supporting the optimistic employment outlook is the
government's spending on infrastructure, which Lowe described as "having an
material effect on the economy."
     "We hear through our liaison program that businesses, particularly in
construction-related occupations, have their order books filling up and they are
much more optimistic about the future because transport construction is actually
helping," Lowe said in his parliamentary testimony.
     The RBA's current forecast is for the unemployment rate to fall to just
under 5.5% by the end of 2019. That is only a small drop from the current 5.6%
jobless rate, but as the rate moves closer to the 5.0% mark that the RBA
considers as full employment, the central bank is hoping it would slowly reduce
the under-employment rate, too. 
     "So our strategy is to have the unemployment rate gradually come down, with
relatively strong growth in employment over time, and that will help some of
these concerns dissipate," Lowe said, referring to slowing wage growth and
     But what happens if the RBA's forecast for the labor market doesn't come to
     The risk is not negligible. The various components that make up an improved
labor market need to ultimately result in household income growth that supports
spending. If risks materialize, the RBA may have to bring easing back to the
table because not doing so could mean exacerbating the very risk it is trying to
avoid: a slowing labor market leading to a prolonged period of higher debt
relative to income.
     One of the key concerns would be any further appreciation in the exchange
rate, which the RBA has already said could lead to a "slower progress in
reducing employment."
     A key question for the labor market outlook is how employment-intensive
future GDP growth will be given LNG production is not expected to add many jobs.
LNG exports are expected to be among the main contributors to GDP growth in the
period ahead, adding a bit under half a percentage point in each of the next few
     The other key risk would be the sustainability of the elevated business
conditions seen in recent months amid lower consumer confidence and political
uncertainty. Any easing in business conditions raises the risk of a stalling in
employment growth prospects.
     Even as business conditions as measured by the National Australia Bank's
business survey are at their highest level since early 2008, consumer sentiment
as measured by Westpac-Melbourne Institute's is below the 100 mark for the ninth
month in a row -- the longest period of weak readings since 2008.
     It is unclear how this disconnect will be resolved in the coming months and
there is a growing risk that the household sector could weigh on the business
sector if low level of sentiment is any indicator of their reluctance to spend.
     "We remain apprehensive about how the disconnect between the business and
consumer sectors will be resolved -- especially in light of sluggish retail
conditions in July," NAB's chief economist Alan Oster said in his commentary on
the July survey. 
     "Additionally, the previously emphasized hurdles to growth -- elevated
underemployment, household debt and peaks in LNG exports and housing
construction -- remain firmly in place. These factors will weigh on the
longer-term economic outlook, following a reacceleration of growth in coming
quarters from the temporary disruptions to activity seen earlier in the year,"
Oster said.  
     Adding to the household spending risk is the recent increase in electricity
prices. At the same time as the household sector is dealing with slow growth in
wages and higher levels of debt relative to income, it also has the added
headwind of costs impinging on their budgets. 
     That means income growth needs to pick up fast enough to offset the impact
of these costs.  
     "If income growth doesn't pick up then I think it's unlikely that the
saving rate will keep coming down, because people will adjust their consumption
spending. This is why I've spoken quite a lot about the benefits of slightly
faster income growth, because if income keeps growing at the rate it's grown at
for the last four or five years then consumption will eventually have to respond
to that," Lowe said.
     Australian labor market data for August are due to be released on September
--MNI Sydney Bureau; tel: +61 2-9716-5467; email:
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