MNI ANALYSIS: RBA Seen Less Fazed By Global Trade War Impact

--RBA Impact View Changes To "Less Exposed" From "Very Costly" 

By Sophia Rodrigues

     SYDNEY (MNI) - The Reserve Bank of Australia appears to have eased its

outlook on how severely global trade protectionism will impact the domestic

economy, with an inference it may be less exposed than other economies. 

     Any upgrade in the outlook would be a far cry from the RBA's earlier

assumption that a global trade war would be very costly for Australia.

     The RBA last week published modelling conducted in March, when the U.S.

first announced tariffs on its steel and aluminium imports and there was talk of

a global trade war. Based on that, the RBA tested three scenarios, the worst

being where all countries except Australia retaliate to wide-ranging U.S.

tariffs and impose 20% tariffs on U.S. goods imports

     With currency impacts removed from the equation, the models suggest that

under a worst case scenario domestic GDP would be 1% lower in 2021, the

unemployment rate 0.25 percentage point higher and inflation around 0.2

percentage point lower. This would require a cut of 50 bps in the RBA's cash

rate.

     By no yardstick can that outcome be considered "very bad" for the economy.

     --CURRENCY IMPACTS

     There is a greater downside risk scenario the RBA thinks is possible, where

AUD rises as much as 6% and the GDP falls 2.5%, requiring more than a 50 bps

cash rate cut. But the possibility of this occurring is remote given AUD has

always been and still is considered a barometer of risk. 

     "Australia may be less exposed to the scenario than other economies that

rely more on global trade flows as a source of demand for their products and who

have larger manufacturing sector. As a result, it is possible that the

Australian dollar could appreciate," the RBA said.

     That the RBA sees a possibility that AUD could appreciate in a worst-case

scenario itself underlines how muted the impact could be, as it is almost

impossible to think that the exchange rate, widely regarded as a risk barometer,

will gain in a global risk-off environment. 

     Conversely, any decline in the AUD, a more plausible outcome, would cushion

the impact on the economy from a global trade war as it would support exports.

     Three different scenarios were assessed back in March with varying degrees

of tariffs. In the worst case scenario, the effect on the Australian economy is

expected from the direct demand channel, accounting for around 85% of the

decline in GDP due to the effect on exports, expected to be 2.4% lower in 2020,

reducing domestic income and weighing on consumption and investment.

     The financial channel, accounting for the remaining 15%, comes via lower

equity prices and wider spreads on corporate borrowing rates, weighing on

consumption and investment.

     --SUBTLE STANCE CHANGE

     In late 2016, when RBA Governor Philip Lowe was asked about uncertainties,

he said a global retreat from openness would be "very bad for us," underlining

how "very costly" it would be.

     But the internal study appears to have given the RBA some confidence that

the outcome may not be "very bad" after all, and might be manageable with little

or no cash rate cut if the exchange rate declines.

     Indeed at the Parliamentary testimony in August, Lowe pointed to upside

possibilities. He alluded to positive outcomes if trade disputes lead to deeper

integration and liberalisation, even at the margin, and if China takes the

protection of intellectual property more seriously. It is perhaps because of

this upgraded assessment that Lowe, even in the face of uncertainties, has stuck

to the guidance that the next move in the cash rate is more likely to be up,

rather than down.

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

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