As far as the policy outlook is concerned, Chair Powell maintained the guidance that the Committee "will act as appropriate to sustain the (economic) expansion" and avoided repeating the "mid-cycle adjustment" description that had rattled markets when it last cut rates in July. The Committee's updated economic projections indicated that little appears to have changed from its outlook presented 3 months ago. Overall, it remains constructive seeing sustained economic growth, robust labour market conditions and inflation lifting near to its target as the "most likely" outcomes. Of course, the precise policy settings to best ensure this remains the case has been the key issue facing the Committee for some time now, particularly as the risks to its outlook are largely exogenous from its purview. Unsurprisingly, divergence between Committee members' views on this issue was evident again. The vote went 7 to 3 in favour of the 25 basis point cut, and of the 3 dissents, 2 (George and Rosengren) had voted for no cut at all, while the remaining member (Bullard) called for a larger cut of 50 basis points.
However, it was in the 'dot plot' of participants' individual projections for interest rate settings (including non-voters) where the divergence was most evident. The median projection was for rates to end 2019 at 1.75%-2.0% (i.e. factoring in the rate cut at this meeting), though 7 participants expected that rates would need to be cut again by 25 basis points before the end of the year, while there were 5 participants that had called for no change from the then prevailing level of 2.25%-2.5%. By end 2020, the median projection was for rates to still be at 1.75%-2.0%, which is in contrast to market pricing that is factoring in around 60 basis points of cuts being delivered between now and the end of next year. Markets appear to be confident the FOMC will eventually come into line with their point of view, and they have good reason to be. Consider that back in June, the dot plot pointed to rates ending 2019 unchanged at 2.25%-2.5% only for the Committee to end up cutting twice since then.
One other point of interest from this meeting was that the Federal Reserve cut the interest rate it pays on banks' excess reserves by 30 basis points to 1.8% (see here). This came in response to a liquidity squeeze in short-term money markets this week, influenced by a combination of factors including company tax payments falling due, and resulted in the overnight lending rate between banks spiking above the fed funds target range. To prevent an inadvertent tightening in financial conditions from taking hold, the Federal Reserve was forced to inject liquidity into the system on several occasions this week, the first time it has had to do so since the GFC.
In the UK this week, as expected the Bank of England unanimously voted to maintain its existing policy settings. The Bank noted an increased level of caution around trade tensions and, in turn, the global growth outlook. However, Brexit is a more pressing concern and until clarity on the manner of the UK's withdrawal from the EU is gained, it is reluctant to follow the easing actions of other central banks. That said, it recognises that underlying output growth has slowed, due largely to weakness in business investment and exports. The household sector is proving to be more resilient to Brexit and global uncertainties and despite the Bank noting that employment growth was softening, labour market conditions were still assessed as robust. As a result, strength in wages growth is helping to keep the Bank's inflation outlook over the near term anchored just below the 2% target.
The Bank of Japan also met this week, and while its Policy Board made no changes to existing settings (see here), it highlighted slowing global growth and downside risks to the outlook as concerns and the possibility that "...momentum toward achieving the price stability target will be lost". In such a scenario, the Bank reiterated that it "will not hesitate to take additional easing measures".
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In terms of offshore developments, the Board is continuing to closely monitor the US-China trade situation, particularly in light of the recent escalation in tensions, which, in turn, have "intensified the downside risks to the global outlook". From the Board's perspective, these tensions have led to a significant weakening in trade volumes over the past year, while geopolitical uncertainty is also cited as a factor weighing on confidence and impacting firms' investment plans across the globe, most notably in the manufacturing sector.
From a domestic viewpoint, while the June quarter National Accounts were released the day after this meeting was held, these minutes showed that Q2's GDP growth outcome of 0.5% led by public demand and net exports amid weakness in private demand (see here) was in line with what the Board had anticipated. Also in focus, conditions in the Sydney and Melbourne housing markets were assessed to be on the improve, though turnover was still low and credit growth was contained despite record low mortgage rates. However, the state of the labour market undoubtedly remains key for the Board. Here, its conclusion was clear with recent data indicating; "...spare capacity remained in the labour market and that the Australian economy could sustain lower rates of unemployment and underemployment".
As such, Thursday's update of the labour market for the month of August was timely. Alas, the Board are, on balance, likely to have been left disappointed with the outcome (see our review here). On the plus side, employment was much stronger than expected for the second straight month rising by a net 34.7k in August against the market forecast for a 15k increase, though the composition was highly lopsided between part time (+50.2k) and full time (-15.5k) work. Rising employment continues to be met by an increasing supply of labour, with the participation rate lifting to 66.2% — the 4th time in the past 5 months it has reached a record high. In fact, on this occasion, participation (+38.8k) increased by more than employment resulting in the national unemployment rate lifting from 5.2% to 5.3% — its highest level in a year. Furthermore, the broader measures of underemployment and underutilisation increased to 8.6% and 13.8% respectively, indicating no progress has been made in lowering spare capacity over the past few months.
Following the employment data, pricing for an RBA rate cut at the next meeting in October moved noticeably higher to imply around a 75% chance of the cash rate falling to 0.75% in two weeks' time. This has the chance to move even higher next week with Governor Philip Lowe due to deliver a speech titled "An Economic Update" on Tuesday night (7:30PM AEST). It is likely Governor Lowe will continue to reiterate that while monetary policy has its role to play in lowering spare capacity, more support from fiscal authorities would be beneficial.
Fortunately, there appears scope for that assistance to be forthcoming with the Federal Treasurer Frydenberg announcing this week that the underlying cash position in 2018/19 was -$0.7bn (see here). At 0.0% of GDP, the budget position has returned to balance for the first time since before the onset of the GFC and earlier than had been expected, as shown in our chart of the week, below. On Budget night in April, a deficit of $4.2bn (-0.2% of GDP) had been forecast for 2018/19, which was revised up from the initial estimate of -$14.5bn (-0.8% of GDP) in May last year. Key to the improvement has been the boost to national income from elevated commodity prices, while employment growth was also stronger than had been forecast over the past year. Receipts were only marginally higher (+$0.1bn) than anticipated back in April but ended up being $11.5bn above the previous year's forecast. On the other side of the ledger, payments had been revised down by some $4.6bn since April and by $6.6bn over the year, due mainly to underspend in the NDIS and lower GST distributions to the states.
Chart of the week
