MNI POLICY: RBA Forecasting CPI Below 2.5% End Forecast Period

By Sophia Rodrigues

     SYDNEY (MNI) - The Reserve Bank of Australia published the quarterly

Statement on Monetary Policy Friday. Below are the key observations we made from

the statement:

     --The RBA extended its forecast period to December 2020, and is forecasting

headline consumer price index inflation at 2.25% versus expectation that it will

be raised to 2.5%. Market expectation was based on Governor Philip Lowe's speech

on Wednesday that, "Over the forecast period, we expect inflation to increase

further to be close to 2.5% in 2020." 

     While there is little difference between 2.25% and 2.5%, it could

potentially have a larger effect on market, given the expectations built around

it, and the fact that the RBA is still not forecasting inflation to the

mid-point of its target band.

     --The RBA is maintaining the optimism that the next move in the cash rate

is likely to be up, and this was well-flagged by Lowe in the speech. However,

there are too many uncertainties to the forecast and the "next move up" message

appears less convincing. In the least, market may further push back pricing for

RBA rate hike.

     --In May, the RBA said it expects spare capacity in the labor market until

the end of the forecast period. This was mainly based on its outlook for 5.25%

jobless rate in June 2020. With the forecast period extended, and the outlook

for unemployment rate to fall to 5% by December 2020, the RBA is no longer

making that comment. Instead, the RBA said spare capacity in the labor market is

expected to decline, and there is uncertainty around estimates of spare

capacity.

     --The RBA's commentary on wages growth appears fairly muted. The RBA said

wages growth in the near term is expected to be "boosted slightly" as a result

of 3.5% increase in minimum wages in July. But beyond that it expected pick-up

in wages growth to be "gradual." The RBA also noted that wage outcomes from

enterprise bargaining agreements are likely to remain a drag on overall wages

growth because despite a pick-up, they remain below that in current agreements.

How much pick-up in wages growth will add to inflationary pressures will depend

on whether there is accompanying increase in productivity growth, the RBA said.

     --The RBA reiterated that the outlook for consumption remains uncertain. On

the positive side is boost from federal budget and lower administered prices.

From consumption perspective, level of retail competition and any further

decrease in administered prices are positives but they do not bode well for

inflation outlook.

     --The RBA said international outlook is largely unchanged from May but

risks to global growth from trade protectionism have increase. The risk is that

an increase in protectionist measures could materially weaken the investment

outlook and weigh on confidence and financial market conditions more generally.

     --The RBA said U.S. growth could be stronger than expected which could

means more, or more quicker rise in the federal funds rate. In such a scenario,

the U.S. dollar may appreciate, leading to downward pressure on the Australian

dollar which would boost growth in domestic activity and tradables inflation.

     --There was commentary on increase in money market rates locally but much

of it was similar to the May statement. Banks' funding costs have risen but

remain low, and the overall increase in funding costs is significantly less than

the 20bps increase in Bank Bill Swap Rate (BBSW), the RBA said.

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

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