MNI ANALYSIS: RBA Lowe's Rate Message May Be Risk For Economy

By Sophia Rodrigues

     SYDNEY (MNI) - Governor Philip Lowe has often suggested that the next move

in interest rates will be up, rather than down, in his widely used glass

half-full approach. 

     But that approach now runs a risk that could threaten the very part of the

Reserve Bank of Australia's growth forecast that the central bank is most

concerned about.

     In the Statement on Monetary Policy published on November 10, it was

probably the first time ever that the RBA cited households' expectations about

interest rate as an important risk to its consumption forecasts, along with the

risk from weaker-than-expected housing prices.

     But less than two weeks later, Governor Lowe gave a speech on the economy

where, among other things, he talked about the progress made so far towards full

employment and the 2% to 3% inflation goal.

     With the economy remaining short of the goals, Lowe said a continuation of

accommodative monetary was appropriate. He then added, "If the economy continues

to improve as expected, it is more likely that the next move in interest rates

will be up, rather than down."

     The comments have convinced the market and many economists that the RBA's

cash rate is likely to be on hold for a while longer but the next move in

interest rates will be a hike and could happen sometime next year.

     The governor's glass half-full message may work well for businesses, where

animal spirits are now making a comeback and could result in a boost to

investment that would pose an upside risk for the economy. But it could do just

the opposite for households, whose spending decisions matter equally for the

economy's growth outlook.

     It is likely prospects for higher interest rates could unnerve households

when they are already struggling with soft wage growth and elevated debt. Such

worries would be exacerbated in the current scenario where housing market

activity is slowing and house prices are either flat or falling.

     Household consumption is a key part of the RBA's growth and inflation

forecast and any downside risk to consumption assumptions increases the downside

risk for the economy's growth and inflation forecasts. If those risks increase,

it would increase the downside risk to monetary policy, contrary to Lowe's

suggestion that the next move in the cash rate is very likely up.

     In the November policy statement, the RBA assumed household consumption

growth will pick up a little, but to a rate that is lower than the average seen

prior to the financial crisis. 

     The RBA expects the small pick-up to be supported by stronger growth in

employment and a gradual increase in wage growth, implying a modest decline in

the household saving ratio. 

     The RBA admitted that "the outlook for household income growth represents a

significant uncertainty for the consumption forecasts."

     While discussing the risks to the forecasts in detail, the RBA said its

assumption that consumption would grow a bit faster than income is based on

households' viewing the current period of weak wage growth as temporary. 

     "If, however, households start viewing lower income growth as being more

persistent, consumption growth could be somewhat lower than forecast," it said.

     "Weaker-than-expected growth in housing prices or changes in expectations

about the likely path of interest rates could also lead to weaker consumption

growth than is currently forecast," the RBA added.

     The Q3 GDP data released last week showed just how fragile households are

and how significant the household consumption risk is for the economy. 

     GDP growth slowed q/q mainly due to a deceleration in household consumption

growth and a fall in public investment. The data showed household consumption

grew at the lowest rate since Q1 2005. Even though the saving rate rose for the

first time since Q2 2016, the 3.2% savings rate is still very low.

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

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