MNI ANALYSIS: No Case for RBA To Take Back 'Extra' Stimulus

By Sophia Rodrigues

     SYDNEY (MNI) - The Reserve Bank of Australia lowered the cash rate to a

record low of 1.5% in the easy monetary policy cycle that began in late 2011,

but none of its moves could be described as emergency cuts or ones aimed at

providing extra stimulus.

     So, to think the RBA will raise the cash rate next year to take back an

emergency cut or withdraw extra stimulus is a misguided assessment. 

     The RBA will not tighten just for the sake of tightening and doesn't

believe it will be forced to hike by any likely set of economic circumstances. A

rate hike will only happen when economic data improve to the point that warrants

some tightening. 

     That was the message from Deputy Governor Guy Debelle at the UBS conference

in Sydney when he took questions from the floor.

     It is no coincidence that the message followed the release of the RBA's

Statement on Monetary Policy (SOMP) on November 10, which stated that spare

capacity in the economy is expected to persist until the end of the forecast

period - December 2019 - and underlying inflation is only expected to reach the

lower end of the target band by that time. 

     The SOMP commentary demonstrated how subdued wage growth is one of the

RBA's top concerns and made clear that until that improves, and household

incomes rise, the outlook for household consumption cannot improve

significantly. The RBA's SOMP forecast and commentary both pointed to a central

bank that's likely to remain on hold for longer, with the risk of easing still

not negligible. 

     But the market continues to price in the possibility of one rate hike next

year and several economists expect one or two rate increases. Among them,

National Australia Bank's chief economist Alan Oster wrote in a note on Tuesday

that they "still think the RBA will be in a position to shift away from the

emergency stimulus setting by H2 of 2018." NAB expects 25bp hikes in August and

November 2018.

     ANZ economists forecast two hikes in 2018 though they now see downside

risks after the weaker-than-expected Q3 consumer price index inflation data. "We

expect the RBA to tighten 50bp in 2018, removing its 2016 stimulus - taking the

real cash rate back to zero, which we think is 'appropriately expansionary.'" 

     Debelle's comments appeared to be aimed at such forecasts. "Are we going to

jack up rates to see how households live with that?" he asked rhetorically. The

environment where the rate goes up would be one where the economy is strong,

nominal growth is stronger and household incomes are actually rising, he

maintained. 

     "I personally don't see something ... some set of circumstances where it

just happens. It will happen in the context of nominal inflation and wage

increases in the economy, when they are stronger than they are now," he said. 

     The outlook as described by the RBA is not all gloomy. 

     There are clear upside risks and they come from the possibility that

infrastructure spending could be stronger than expected. Indeed, in a speech

Wednesday, Assistant Governor Luci Ellis described public infrastructure as the

newest "engine of growth" and one that could probably see stronger spillovers to

the rest of the economy than housing.

     But there's also the key downside risk - that wage growth would remain

subdued for longer. For the RBA, that downside risk is a big worry, not just

because its forecasts imply spare capacity until the end of the forecasting

period but because the experience in other advanced economies suggests wage

growth could remain subdued even when spare capacity diminishes. 

     That would effectively mean the non-accelerating inflation rate of

unemployment (NAIRU) would have to be lowered in Australia, too, from the

current estimate of 5.0%. Debelle pointed to this in one of his answers. 

     "Just as there's positive upside from infrastructure spending, the negative

risk on the downside is that wage growth remains stubbornly lower for longer

than we are anticipating," he said. "At least that seems to be the experience

globally. The question is how relevant it is locally."

--MNI Sydney Bureau; tel: +61 2-9716-5467; email: sophia.rodrigues@marketnews.com

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