Headlining Australian developments this week was a very strong labour market update for May. Employment for the month soared past all estimates in rising by 115.2k (consensus was 30.0k), confirming that the weak outcome in April (-30.7k) was more than likely related to seasonality around the Easter and school holiday period than the expiry of the JobKeeper wage subsidy (full review here). Consistent with this, participation near fully rebounded from a sharp fall backing up to around record highs at 66.2%. But such was the strength in employment, the national unemployment rate was crunched lower falling from 5.5% to 5.1% (vs 5.5% expected) to now sit slightly below where it was at the time the pandemic emerged and a vast improvement on the mid-2020 peak of 7.5% (see chart below). With many Australians returning from holidays, total hours worked rebounded by 1.4% for the month, more than recovering the decline in April and rising to be 2.9% above pre-pandemic levels. This, combined with the weighting towards full-time employment in May (97.5k to 17.7k in part-time), helped soak up more of the spare capacity in the labour market. Underemployment fell to its lowest since 2013 at 7.4% and underutilisation is now at an 8-year low at 12.5%. COVID-related setbacks seem a much greater risk to the recovery than the expiry of JobKeeper at this stage and further progress is still needed given that the economy is still far from full employment.
Chart of the week
Certainly, this was the message from this week's RBA communications, which emphasised that very accommodative monetary policy settings will still be required for some time. The composition this will take is up for some recalibration at the July meeting, with the Board to make decisions around the 3-year yield target and quantitative easing (QE) program. On the former, the June minutes noted that the decision on whether the target bond for the policy would be rolled forward into the next maturity would be based on an assessment of prospects for inflation returning to target "some time in 2024". This fits with the Board's forward guidance for the conditions for rate hikes being unlikely to materialise "until 2024 at the earliest". Previously, I had expected that for the RBA to be confident in achieving its goals, it would fully commit to its forward guidance by extending the yield target through much of 2024. But it appears the Board may be of the view that current settings targeting the April 2024 bond can get the job done. Indeed, RBA Governor Philip Lowe provided more nuance in a speech this week that outlined how the economy was now in a transitional phase still in recovery mode but moving towards expansion. On the yield target decision, Governor Lowe said that the Board had been working through various scenarios and in some of these cases, the economic conditions forecast would justify hiking rates in 2024. Governor Lowe also outlined that when it comes to the way forward with its QE program, the Board was considering lots of options. This leaves markets to drive the discussion in coming weeks over which way it might go. Potential options include maintaining existing parameters, opting for a tapered approach or shifting to a more flexible program where the assessment of economic conditions would dictate the pace of purchases. Ending QE when the second tranche of $100bn of bond-buys is completed in September has already been ruled out by the Board.
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Offshore, the focus was almost exclusively on the latest meeting by the US Federal Reserve's policy-setting FOMC. While the Committee left rates (0-0.25%) and QE purchases ($120bn/mth) unchanged, as expected, the markets came away with a significantly more hawkish narrative than anticipated going into the meeting. Expectations were that the median forecast on the dot plot would shift just enough to bring forward the timing of the first rate hike from 2024 to 2023. However, the updated set of Committee members' projections now shows 50 bps of rate hikes as the median estimate for 2023. Highlighting the shift in expectations across the FOMC, there are now 13 of the 18 members forecasting at least one rate hike for 2023 compared to a total of 7 when projections were last submitted in March. But the more pressing issue is the implications for QE and the timing of the tapering discussion with Fed Chair Jerome Powell saying that it talked about talking about it at this week's meeting. The interesting aspect to this more hawkish shift is that it has come despite the forecasts maintaining the central view that high inflation readings will prove transitory. Unsurprisingly, the median estimate for core PCE inflation this year was revised sharply higher from 2.2% to 3.0%, but the forecasts then have it slowing back to 2.1% next year (from 2.0%) as supply-side bottlenecks abate and to then hold at that pace in 2023 (unchanged from 2.1%). But it appears there is now more uncertainty around inflation following this profile and the Committee clearly sees the risks are to the upside of its expectations. In the post-meeting press conference Chair Powell highlighted that the price pressures currently evident with the economy reopening "...could turn out to be higher and more persistent than we expect". As to the other key forecasts, GDP growth was upgraded to 7.0% this year from 6.5% maintaining an above-trend profile in 2022 and 2023, while unemployment is seen falling to 4.5% by year's end and lowering to 3.5% in 2023.
Over in Europe, maintaining the message from last week's policy meeting, there is no sign of the ECB taking on a hawkish leaning. ECB Chief Economist Philip Lane noted during a Bloomberg TV interview this week that its guidance to run purchases in its pandemic bond program at a higher pace remained appropriate but that it had the flexibility to make adjustments to ensure that favorable financing conditions are preserved over the summer. While euro area inflation strengthened a little further in May rising from 1.6% to 2.0%yr on the headline measure and from 0.7% to 1.0%yr on the core rate, the ECB's Lane spoke to the expected transitory nature of its recent rise by highlighting the high level of spare capacity in the labour market and absence of upward pressure on wages. Staying with the inflation theme, UK CPI printed above expectations in May at 2.1%yr on headline and 2.1%yr for the core measure. The uplift in inflation is being driven by base effects, with prices being compared back to the depths of the lockdowns last year, but there were also elements pointing to reopening dynamics through rises in May for clothing and footwear, recreational goods and restaurants and hotels.
