The minutes from the RBA's February meeting released this week reiterated its slower growth outlook for 2019 and 2020 was conditioned on an expectation for lower household spending, acknowledging a negative wealth impact from falling property prices, and a sharper-than-anticipated downturn in residential construction activity. Notwithstanding, its forecasts are for above-trend GDP growth of 3.0% in 2019 and an at-trend pace of 2.75% in 2020. Clearly, the Bank takes the view that the falls in property prices that have occurred over the past year or so will only have a relatively limited impact on household spending, and therefore overall economic growth. This was a point emphasised on Friday during the RBA's semi-annual parliamentary testimony, in which Governor Lowe said that "this adjustment in the housing market is not expected to derail the economy".
As noted in the minutes, the clear risk to that outlook is that further and larger falls in property prices lead to weaker-than-forecast household spending, which "would result in lower GDP growth, higher unemployment and lower inflation than forecast". However, in line with earlier RBA commentary, Governor Lowe highlighted on Friday that this risk to household spending was considered to be secondary to continued low growth in household income.
On this front, wages growth is a key factor in household income growth. Data out this week showed that Australian wage inflation remained soft at 0.5% in the December quarter and 2.3% through the year (see our separate analysis here). The positive was that growth in private sector wages continued on its upward trajectory, albeit a very gradual one, lifting to a 4-year high at 2.29%, which features as our chart of the week.
Chart of the week
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Looking at developments abroad this week, the focus from the US was on the Federal Reserve's (Fed) minutes from its meeting at the end of January. The minutes confirmed the wait-and-see approach to policy settings the Committee has now shifted to. Of note, the Committee members agreed to soften their assessment of the pace of growth in the domestic economy from "strong" to "solid" on the basis of a moderation in the strength of incoming data since the turn of the year.
Notwithstanding, the Committee's central scenario remains upbeat; solid economic growth is expected to be sustained, as are strong conditions in the labour market, while inflation is seen to be near the 2% target. In the post-meeting press conference last month, Federal Reserve Chair Jerome Powell mentioned "cross-currents" as potential risks to this outlook. The minutes provided further detail around this, with the Committee noting concerns due to slowing global economic growth, trade tensions, fading fiscal stimulus, and political uncertainty both in the US and abroad.
There was also considerable discussion around the risks to the outlook posed from financial conditions that were now assessed to be "materially tighter" than in recent months, due to rising credit spreads and declines on equity markets towards the end of 2018. The minutes also showed that "several" Committee members had noted a flattening in the US yield curve as a potential concern, which has in the past been linked to weaker future economic conditions.
On balance, given those prevailing economic and financial uncertainties the line was adopted that "the Committee will be patient as it determines what future adjustments to the target range for the federal funds rate may be appropriate", while also highlighting that it retained a flexible approach dependent on the strength of incoming data. While markets have priced out expectations for further rate increases this year, the Committee has not ruled out this prospect — notably if inflation outcomes were to prove stronger than expected — though not before a pause to its tightening cycle. Additionally, the minutes pointed to the Fed stopping its balance sheet run-off by the end of the year. The Fed is currently running down its near US$4 trillion balance sheet by $50 billion per month, with the minutes implying that it is likely to reach a higher terminal value than previously expected in reference to the concerns regarding the tightening in financial conditions.
Looking over to Europe, the European Central Bank (ECB) also published its January meeting minutes this week. Similar to the Fed, the ECB's Governing Council is also taking a wait-and-see approach to policy following slowing momentum in economic activity in the continent. The assessment of the Governing Council was that the risks to its economic outlook "had moved to the downside" shifting from its "broadly balanced" assessment towards the end of last year.
The minutes outlined that the Governing Council is not yet clear if slowing momentum in the economy was due to a loss of confidence from temporary factors, such as uncertainty relating to trade tensions, Brexit developments, and sector-specific issues that have impacted European manufacturing, notably Germany's auto sector; or if there was cause for concern regarding a more persistent slowdown than currently expected. There is likely to be further clarity on that assessment at the Governing Council's next meeting in two weeks time, which will include updated economic growth and inflation forecasts.
Also of interest, the ECB said that analysis of policy options to address potential liquidity concerns "needed to proceed swiftly". This refers to another round of Targeted Long-Term Refinancing Operations (TLTRO), which is the technical name given to a form cheap funding the ECB has previously made available to the banking sector to incentivise lending to businesses and households. With more than €700 billion of that funding due to be repaid by the banks in 2020 and 2021, the ECB is mindful of "cliff effects" causing liquidity conditions to tighten; a situation that could prove problematic in certain countries such as Italy. Changing its forward guidance is another policy option the Governing Council has often turned to, which were noted in the minutes as being effective in the past in terms of leading to an easing in financial conditions.
