Macro (Re)view (26/4) | RBA live after inflation decelerates

Amidst public holidays this week, Australian inflation data for the March quarter came in much slower than expected on both a headline and core basis. That prompted a significant re-pricing in markets; the probability of a 0.25% rate cut in May by the Reserve Bank of Australia (RBA) to 1.25% was increased to around a 50/50 chance, accelerating to 90% by June and is now fully priced for July. Yields on 2-year (around 1.33%) and 3-year bonds (around 1.29%) fell sharply inside the cash rate (1.5%) and the 10-year yield was cut by 11 basis points to around 1.8%.

Inflation according to the Consumer Price Index (CPI) stalled (0.0%) in Q1 slowing the annual rate to 1.3% from 1.8%, mainly due to a sharp fall in petrol prices while softness in rents and new dwelling costs was also notable. Some of that slowing is likely to reverse in Q2 in line with improving global oil prices, though more problematic from an RBA perspective is that core inflation also decelerated noticeably, indicating an easing in economy-wide pricing pressures. Core inflation in Q1 was very subdued at 0.19%, as annual growth turned down to a 2½-year low of 1.42% (For our full CPI analysis see here). Our chart of the week (below) highlights very clearly that core inflation has moved further away from the RBA's lower target of 2%. 

Chart of the week

  

In last week's review, we highlighted that the RBA's April meeting minutes mentioned the explicit scenario under which the Board would be prepared to cut the cash rate, the key line being "Members also discussed the scenario where inflation did not move any higher and unemployment trended up, noting that a decrease in the cash rate would likely be appropriate in these circumstances". A face-value interpretation suggests that a deterioration in the unemployment rate is now all that stands in the way of a rate cut. On the other hand, a case could be made for a cut in May given the unambiguous weakness in the inflation data, particularly if the Board judges that "mixed" forward-looking labour market indicators are likely to result in slower employment growth in the months ahead. Price action in markets appears to indicate that the latter scenario is favoured, so we can consider the RBA's meetings from this point onwards to be 'live' for a rate cut to be announced. 

The RBA Board next meets on the 7/5 and three days later (10/5) the Bank is due to publish its quarterly Statement on Monetary Policy (SoMP), which outlines its detailed assessment of economic conditions and forecasts for growth and inflation. Looking at recent history, it might be of interest to note that each of the past 6 rate cuts announced by the Bank has been at a meeting that has directly preceded the release of its SoMP. Of those, 3 have occurred at a May meeting, 2 in August and 1 in February. 

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Central banks were also in focus globally this week, continuing the broad-based shift to more accommodative policy stances in response to the slowdown in global growth brought on mainly by trade tensions. On Thursday, the Bank of Japan (BoJ) held its ultra-stimulatory monetary policy settings in place, highlighting that it intends to maintain interest rates at their extremely low levels (policy rate -0.1% and 10-year bond yield around 0%) for at least the next 12 months. The BoJ also expected softer external demand to lower GDP growth slightly in 2019 to 0.8% compared with its previous forecast from January. 

Similarly, the Bank of Canada foresaw economic activity over the first half of 2019 slowing to 1.2% from its previous expectation for 1.7%, due to uncertainty over trade policy weighing on the export sector and on business investment combined with weakness in residential construction. That prompted the Bank's Governing Council to remove the wording in its statement around the timing of future interest rate increases. Also this week, the People's Bank of China (PBoC) announced it will inject around US$40bn of liquidity into the banking system, which is targeted at boosting lending for small and private businesses. Data last week showed that GDP growth in China firmed in Q1, providing an early sign that fiscal stimulus through tax cuts and infrastructure investment is beginning to take hold.

The highlight from abroad this week occurred on Friday as the 1st estimate of US GDP growth for Q1 accelerated to an annualised pace of 3.2% from 2.2% in Q4 of 2018, coming in much stronger than the market forecast for 2.3%. The acceleration in growth was driven mainly by a turnaround from net exports (+1.03ppt) and inventories (+0.65ppt); components that are typically volatile and likely accentuated by the ongoing trade tensions causing uncertainty for export and import-related businesses. It was a softer quarter for the consumer, with household consumption slowing noticeably from 2.5% to 1.2%, reflected by weakness in spending on new vehicles, clothing and footwear and household furnishings. Business investment also slowed sharply in Q1, with equipment almost stalling (0.2%) after rising by 6.6% in Q4, while spending on new structures contracted by 0.8%. The residential construction sector is an area of concern as activity declined by a further 2.8% in Q1, its 5th consecutive quarterly decline.  

 

Australian inflation slows sharply: CPI stalls in Q1

Australian inflation slowed more sharply than expected in Q1, with the headline Consumer Price Index (CPI) measure stalling in the quarter, as the annual rate fell back to 2016 levels. Annual core inflation also fell to a 2½-year low sliding further away from the Reserve Bank of Australia's 2% lower target to open the door for a rate cut, particularly if the unemployment rate shows any sign of deterioration. 

Consumer Price Index — Q1 | By the numbers 

• Headline inflation stalled in Q1 (0.0%) in a downside surprise to the market forecast for 0.2% (prior 0.5%).
• The annual rate decelerated to 1.3% from 1.8%, missing the expected outcome for 1.5%.

• Core inflation (average of the trimmed mean and weighted median measures) was just 0.19% in Q1, which was less than half of what the market had expected at 0.4% (prior revised: 0.42%)
• Annual core inflation slowed to 1.42% to come in well short of the 1.65% expected (prior revised: 1.73%)

• Separating the core inflation numbers, the trimmed mean measure printed at 0.28%q/q (expected: 0.4%, prior revised: 0.47%) and 1.6%Y/Y (exp 1.7%, prior rev 1.82%). Meanwhile, the weighted median slowed to 0.1%q/q (exp 0.4%, prior rev 0.36%) and 1.24%Y/Y (exp 1.6%, prior rev 1.64%)   

Consumer Price Index — Q1 | The details  

The details from today's report confirm that the stalling in headline CPI in the quarter was driven by weakness across a broad range of areas, as per the chart, below (click to expand). The transport category subtracted 0.21ppt from the CPI figure in Q1, though that understates the impact of an 8.7% fall in petrol prices (-0.31ppt). 

Intense competition continues to weigh on prices in the retail sector, highlighted by clothing and footwear (-0.05ppt) and furniture and furnishings (-0.03ppt). Domestic household services added 0.04ppt to inflation in the quarter.

The housing category was broadly flat in Q1 (+0.01ppt) as rents stalled and new construction declined (-0.02ppt) in line with the correction occurring in the property market. 

By group, the largest subtraction came from recreation and culture (-0.22ppt), mostly attributable to holiday travel both domestically (-0.13ppt) and internationally (-0.08ppt). Also notable was weakness from audiovisual and computing equipment (-0.04ppt).  

At the other end of the scale, the impact of drought conditions resulted in a sharp increase from vegetable prices (+0.11ppt). However, the main inflationary pressures remain in the 'administered' areas — those impacted by government policy — in education (+0.14ppt), health (+0.12ppt) and alcohol and tobacco (+0.03ppt).     

Looking at the above analysis from a different perspective, the chart, below, provides the percentage changes in price for each of the groups for the quarter and the year. From this, we can see that education costs lifted by 2.7% in the quarter to outpace all other groups. Next highest was health at 1.9%, due to cyclical factors relating to government subsidies. Food prices lifted by 1.5%, as vegetable (+7.7%) and fruit prices (+1.8%) responded to supply constraints brought about by drought conditions.  

Costs in the housing group stalled in the quarter, reflected by no change in rents and new dwelling prices fell by 0.2%. Meanwhile, electricity prices fell by 0.6% in the quarter.   

As mentioned earlier, fuel prices fell by 8.7% in the quarter. There was a similar magnitude of prices declines for clothing and footwear (-1.4%) and recreation and culture (-1.5%).  

Looking more broadly, the disinflationary impact from tradables (prices determined by global factors) intensified with a 0.6% decline in the quarter after falling by 0.3% in Q4, with annual growth slowing from 0.6% to 0.4%. Non-tradables (reflecting domestic factors) lifted by 0.3% in Q1, though annual growth decelerated to 1.8% from 2.4% 

Inflation for market goods and services ex-volatile items — effectively a proxy for private sector price pressures — fell by 0.1% in the quarter, which slowed the annual pace to 1.4% from 1.5%. However, it is interesting to note that it now outpaces annual growth in headline CPI at 1.3%. The last time this occurred was Q2 2016, though that is more likely to be explained by the sizeable fall in petrol prices rather than indicating a shift in the underlying balance of inflationary pressures with 'administered' or government-influenced prices.  

Consumer Price Index — Q1 | Insights

The RBA's April minutes made it clear that the hurdle to a rate cut was dependent on the unemployment rate trending up and the trajectory of inflation not moving any higher. Today's sharp slowing in core inflation meets the second part of that scenario. In February, the RBA in February had forecast core inflation on the trimmed mean measure to reach 1.75% by mid-year. With inflation slowing more sharply than expected and moving further away from the target band, we can expect to see next month's updated forecasts for inflation downgraded in addition to revisions for GDP growth. For now, labour market conditions look to remain robust and appear to be the only factor standing in the way of a near-term rate cut.     

What to expect: Consumer Price Index -- Q1

The ABS is due to release its Consumer Price Index (CPI) data for Q1 today at 11:30am (AEST). Last week's minutes from the Reserve Bank of Australia's (RBA) April meeting highlighted the renewed importance of inflation to its policy outlook, noting that if it did not lift higher and the unemployment rate also trended up, that would provide the trigger for a rate cut.

Over recent years the inflationary pulse in Australia has been subdued and has come in persistently below the 2-3% band targeted by the RBA. In response, the Board has elected to take a patient approach, based on the expectation that tightening labour market conditions will gradually drive inflation back to target. For now, the labour market data remains solid as highlighted by last week's robust update for March (see here), though we are still yet to see any meaningful lift in inflation. While labour market data appears to be the top priority for the RBA, inflation is not that far behind and the Board's patience may be starting to wear thin so today's report warrants close attention.


As it stands | CPI 

In Q4, CPI on a headline basis lifted by 0.5%, which was the first time in 2 years that the quarterly figure was above the market forecast (0.4%), though the annual pace eased from 1.9% to 1.8% (expected 1.7%). The headline CPI figure is based on price changes to a fixed basket of goods and services from one quarter to the next.

Core CPI, which is the preferred measure of the RBA, is taken as an average of the trimmed mean and weighted median measures and excludes the impact of extreme price movements from quarter to quarter (for those interested in the technical details see the following from the ABS here). In Q4, core CPI posted a 0.37% rise that was a touch softer than the consensus for 0.45%. On an annual basis, core CPI was 1.77% and essentially in line with expectations. 

Market expectations | CPI 

As we look forward to today's release, data compiled by Bloomberg Australia shows that inflation is expected to have softened in the March quarter, mainly due to a sizeable decline in petrol prices while strong competition continues to weigh on prices in the retail sector. The other key contributor remains weakness in rents and in dwelling construction costs. On a headline basis, inflation is expected to come in at 0.2% in the quarter and 1.5% through the year. Interestingly, there is a broad range of estimates for today's outcome from 0.0% to +1.0% in the quarter and from 1.3% to 2.0% for the year, with some prominent forecasters sitting towards the lower ends of the ranges.   

Looking at the core measures, the expectations for the trimmed mean are 0.4%q/q and 1.7%Y/Y and for the weighted median 0.4%q/q and 1.6%Y/Y. Averaging these projections, Core CPI is forecast to rise by 0.4% in the quarter with the annual pace easing to 1.65%. The range of estimates for the quarter is from 0.3-0.9% and 1.55-1.8% in annual terms.  


What to look for | CPI 

The RBA's April meeting minutes have made it clear that we need to keep a close watch on the trajectory of inflation. The specific measure in focus is the annual rate for core inflation (currently 1.77%). If, as expected, we see this figure soften and move further away from the 2-3% target band that would be an unwelcome development for the RBA. Recall that back in February the RBA lowered its inflation forecasts for the next couple of years to indicate that a return to target is not seen before the end of 2020 (see here). A soft print today could prompt another downgrade in next month's Statement on Monetary Policy and that situation would only strengthen the market's expectation for the RBA to ease in 2019. 

For a detailed analysis of how the markets might react today, this excellent analysis from Chris Weston, Head of Research at Pepperstone, here is highly recommended. 

One other aspect worth following, though of less interest from a market perspective, is the 'market goods and services ex-volatile items' measure -- effectively a proxy for private sector inflation. We know that over recent years inflation has predominantly been driven by areas where pricing is influenced by government policy, such as in alcohol and tobacco, utilities, health, education, and property rates, as shown in the chart, below. In Q4, we saw better detail as private sector inflation lifted by 0.7% in the quarter to its fastest annual pace in 3 years to a still soft 1.5% despite the easing in the headline CPI. Another increase today provides at least some evidence that the underlying inflationary pulse is improving.   

As usual, our analysis of today's data will be posted shortly after it is released.  

Macro (Re)view (18/4) | RBA's rate cut scenario; China growth firms

There were two main developments in Australia this week that were notable from a monetary policy perspective. On Tuesday, the Reserve Bank of Australia's (RBA) minutes from the April Board meeting were released, giving a clear signal that a rate cut is in focus and the scenario in which it would be an appropriate policy response. However, Thursday's stronger-than-expected labour force report for March made this an unlikely near-term proposition.   

Throughout 2019, the RBA has been taking incrementally dovish steps in its communication and April's minutes were the latest example. The final line used by the Governor in his decision statement two weeks ago was repeated in these minutes but was expanded to give added importance to labour market conditions by noting that "the Board will continue to monitor developments, including how the current tensions between the domestic GDP and labour market data evolve, and set monetary policy to support sustainable growth in the economy and achieve the inflation target over time". 

Given the uncertainty around how the 'tension' between slowing GDP growth and robust labour market conditions will resolve and with the inflationary pulse anticipated to remain soft, the minutes showed that the Board was prompted into considering a scenario in which the unemployment rate began to trend upward and inflation did not lift any higher. The assessment of the Board was that "a decrease in the cash rate would likely be appropriate in these circumstances". Though the Board acknowledged that such a move would likely have a reduced impact in the current environment, due to high household debt and the correction occurring in the property market, it countered that by highlighting the stimulatory impact from exchange rate adjustment and increased household cash flow. 

March's labour force report showed that employment increased by a net 25,700 in the month, while the national unemployment rate lifted back to 5.0% due to a strong rise in workforce participation (for our full analysis see here). A key development was that the pace of employment growth firmed from 2.3% to 2.4% in annual terms after a solid Q1, which is shown as our chart of the week (below), adding to the existing tension with slowing GDP growth and thereby ruling out a near-term RBA rate cut. 

Chart of the week

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The main highlight from abroad this week was the latest set of China data. Activity in the world's second-largest economy expanded by 1.4% in Q1, as annual growth remained at 6.4% to defy the market forecast for an easing to 6.3% and offer an early indication that recent stimulus measures, including tax cuts and infrastructure investment, are gaining traction. Officials in Beijing are targeting economic growth of 6.0-6.5% in 2019 compared to 6.5% last year, reflecting the impact of trade tensions with the US and the implementation of measures designed to achieve higher quality and more sustainable growth, notably by addressing risks to financial stability from the 'shadow banking' system.

In line with recent improvements in manufacturing PMI surveys, industrial production expanded sharply from an annual pace of 5.9% to 8.5% in Q1 to easily exceed the expected outcome of 5.9%. Furthermore, retail sales posted a stronger-than-expected increase of 8.7% over the year compared with the forecast for 8.4%, likely driven by recent strength in the residential property market. Lastly, fixed asset investment increased as expected with a rise of 6.3%ytd in Q1.

Turning to the US, momentum in the domestic economy appears to be easing early in Q2, with the IHS Markit 'flash' Composite PMI reading for April slowing to a 31-month low of 52.8 from 54.6 in March. The detail of the survey showed that growth in activity in the services sector slowed noticeably in the month, while conditions in manufacturing held steady. From a consumer standpoint, retail sales growth accelerated in March posting a 1.6% rise that was well clear of the 0.9% anticipated by markets, while growth in the 'control group' that feeds into GDP calculations lifted by 1.0% in the month. Also of note this week, comments by FOMC member Charles Evans gained attention where he highlighted that there would be a case for the Federal Reserve to cut interest rates if core inflation were to fall to 1.5% from its current 2.0% pace, though that was not the forecast scenario.

In Europe, the IHS Markit 'flash' composite PMI for April eased to a 3-month low of 51.3 from 51.6 in the previous month, indicating that subdued activity in the euro area economy continued into Q2, in response to weaker external demand while country-specific factors within the bloc weigh on output. The weakness continues to be concentrated in the manufacturing sector, most notably in Germany where the nation's key auto sector is contending with the headwinds from slowing global growth and regulatory changes. Conditions in the services sector remain positive, though output growth showed its slowest rate of expansion in 3 months in April.  

Australia's labour market outperforms in March

Australia's labour market performed stronger than anticipated in March to complete a solid first quarter in 2019, though the unemployment rate lifted slightly in the month in response to an increase in workforce participation. Tuesday's minutes from the Reserve Bank of Australia's April placed labour market data at the forefront of its policy considerations. 

Labour Force Survey — March | By the numbers

• Employment increased by a net 25,700 in seasonally-adjusted terms, well above the 15,000 increase forecast by markets. February's initially reported gain of 4,600 was upwardly revised to 10,700.  

• The national unemployment rate lifted, as expected, to 5.0% from 4.9%.
• The underutilisation rate lifted by 0.2ppt to 13.2%, and the underemployment rate increased by 0.1ppt to 8.2%. 

• The participation rate lifted by 0.1ppt to 65.7% (exp: 65.6%).

• Hours worked posted a sharp 0.7% in the month (prior +0.2%) to 1.79bn hours, with annual growth accelerating to 3.0% from 2.2%.

Labour Force Survey — March | The details 

The rise in the nation's unemployment rate to 5.05% from 4.94% (+0.11ppt) was driven by a 0.08ppt lift in participation to 65.66%. In absolute terms, participation increased strongly by 42,700 to outpace the net increase in employment of 25,700. As a result, the total of unemployed lifted by 17,000. If we look at the trend data, the chart above shows that workforce participation remains at an elevated level with the unemployment rate holding around 5.0%. In that sense, the fundamentals in the labour market remain solid. 

March's 25,700 net increase in employment was the result of full-time work rising by 48,300 and part-time declining by 22,600. In a development that will encourage the RBA, overall employment growth lifted to 2.44% in annual terms from 2.28% and looks to have trended up slightly since the turn of the year. That is being led by full-time work at 3.41%Y/Y, with growth in part-time work falling to 0.37%Y/Y (click chart, below, to expand).

Also a positive was that hours worked increased by 0.7% in March — its strongest monthly gain since June 2018 — to 1.79bn hours, which lifted annual growth to 3.0%. Adjusting for the increase in employment, average hours worked per employee in March lifted by 0.5% to 139.6 hours to be 0.5% above the level from a year earlier. 

Against these positives, measures of underutilisation deteriorated in March. The underemployment rate, which counts those employed but wanting to work more hours, lifted 0.1ppt to 8.2%. Meanwhile, the underutilisation rate, including the underemployed and unemployed, increased by 0.2ppt to 13.2%. Though neither are large moves they both remain elevated and are proving very difficult to bring lower on a sustained basis despite the robust conditions in the labour market. 

The state detail for unemployment rates was; New South Wales steady at 4.3%, Victoria -0.1ppt to 4.6%, Queensland +0.7ppt to 6.1%, South Australia +0.2ppt to 5.9%, Western Australia +0.1ppt to 6.0% and Tasmania +0.2ppt to 6.7%. The chart, below, provides the breakdown of employment growth across the states in the month, quarter and year.

   

Labour Force Survey — March | Insights

Australia's labour market performed well above expectations in March, as conditions remained solid over the first quarter with employment increasing by a net 71,000. That equated to employment growth in Q1 of 0.6%, which was a touch slower but close to growth in Q4 at 0.7%. The uptick in annual employment growth to 2.4% suggests that conditions in the labour market remain solid. That reduces the near-term likelihood of an RBA rate cut, though it could be argued that Tuesday's minutes already signaled that. For now, there is little to suggest that the tension between slowing GDP growth and strength in the labour market is showing signs of resolving. 

What to expect: Labour Force Survey -- March

Australia's Labour Force Survey for March is due to be released by the ABS today at 11:30am AEST. To set the scene, the minutes from the Reserve Bank of Australia's (RBA) April Board meeting released on Tuesday (see here) gave a clear indication that if labour market conditions were to deteriorate from here onwards, then it would be prepared to respond by lowering its cash rate. 

The nation's labour market performed solidly over 2018 despite a sharp slowdown in economic activity in the second half of the year, as household spending weakened and the downturn in the residential property market gathered pace. In 2019, data has been limited to just 2 reports (covering January and February) in which the usual seasonal volatility coinciding with holidays appeared to be evident. All considered, the labour market appears to have held up since the turn of the year, though there have been signs that conditions have softened somewhat. With that in the past, what matters now is how the data progresses. If it wasn't already, today's report will be crucial in shaping the near-term outlook for a potential RBA easing. 

As it stands | Labour Force Survey 

February's Labour Force Survey contained mixed detail. Employment increased by a net 4,600, well below the 15,000 increase expected by markets. However, the national unemployment rate lowered from 5.0% to 4.9%, as workforce participation eased from 65.7% to 65.6%. The underemployment rate remained at an elevated 8.1%, though the underutilisation rate declined to a 5½-year low at 13.0%. Rounding out the report, hours worked lifted marginally by 0.2% in the month to be 2.2% higher over the year. For a full review of February's report see our analysis here. 

Market expectations | Labour Force Survey 

In today's report, the median market forecast is for employment to increase by a net 15,000 around a range from +8,000 to +33,000 according to data compiled by Bloomberg Australia. The unemployment rate is anticipated to edge back up to 5.0%, with the participation rate seen steady at 65.6%.   

What to look for | Labour Force Survey

We can use the forward-looking indicators as a guide for what might happen in today's report. The recent ABS Job Vacancies data, which are followed closely by the RBA, showed that the number of vacancies reported by firms was at a record high in February, though the pace of gains eased to 9.9% in annual terms to be around half of what it averaged in 2018. For the moment, expect employment growth to hold up around its current pace of 2.3% in annual terms, as per the chart (below), though it appears likely to slow further in the months ahead if we are to heed the signals from the job vacancies data. Meanwhile, despite also slowing from 2018 levels, the employment index within the NAB Business Survey in March remained above average and indicated jobs growth of around 20,000 per month. 

Macro (Re)view (12/4) | Slowing global growth to keep Fed patient

Concerns over the macro outlook were back in focus this week as the International Monetary Fund (IMF) lowered its forecast for global economic growth in 2019 from 3.5% to 3.3%, while also describing the balance of risks as "delicate". This was the latest downgrade from the IMF following earlier revisions in January and October coming in response to the headwinds from continuing US-China trade tensions, slowing output in Germany's auto sector and a tightening in global financial conditions prompted by US interest rate rises.

April's downgrade to global growth was heavily weighed by a weakening in the outlook in Europe, with the forecast for 2019 lowered by 0.3ppt to a 1.3% pace. This was driven by broad-based downgrades in the major euro area economies, as shown in our chart of the week, below. These revisions reflect some highly country-specific factors including; new emissions standards impacting car production in Germany, political and fiscal uncertainty in Italy, and anti-government protests in France disrupting consumer spending. Uncertainty related to Brexit is also likely to be spilling over into Europe and weighing on businesses' investment decisions.

Chart of the week

The US outlook was trimmed by 0.2ppt to 2.3%, though this still points to above-potential growth in 2019. That assessment was broadly consistent with the view expressed by the Federal Open Market Committee (FOMC) in their minutes from the Federal Reserve's (Fed) March meeting. The Committee noted that growth had appeared to slow through the first quarter, in response to softness in household spending and business investment, though this was expected to be transitory. Importantly, labour market conditions had remained strong and the unemployment rate low. The Committee retains an upbeat outlook, with the economic expansion expected to continue, supported by strong labour market conditions and inflation remaining around the target. The risks to that outlook are described as "balanced", due to slowing growth in China and Europe, uncertainty in trade and Brexit developments and a fading impact from earlier fiscal stimulus. Given these uncertainties, the Committee noted that it will be "patient" by waiting to see how the data evolves regarding future monetary policy decisions. This stance is further justified by the Committee's assessment that the fed funds rate currently sits around its neutral estimate and inflationary pressures are "muted". 

In Europe, the key focus was on the European Central Bank's latest policy meeting. Few changes were expected given that the Governing Council announced an ultra-dovish pivot to its policy stance at the previous meeting a little over a month ago. This included a new round of targeted longer-term refinancing operations (TLTRO-III), which provides the banking sector with access to funding on more favourable terms than in financial markets, though the specific details have not yet been announced. ECB President Mario Draghi said these will be revealed "at one of our forthcoming meetings", of which there are two (in June and July) before TLTRO-III is due to start in September. Economic conditions over the next few months will be key in determining what shape TLTRO-III will take, with most interest around the "built-in incentives", which in the previous iteration offered a discount in pricing relative to the ECB's main interest rate. Regarding recent discussion around tiering the deposit rate changed on banks' excess reserves, the ECB appears to remain hesitant with President Draghi conveying that more analysis was required before any conclusion can be reached.

Also this week, the EU27 granted a second extension under Article 50 for the Brexit withdrawal date, this time until October 31, 2019. A condition is that the UK will now have to hold European Parliamentary elections, unless it can reach a withdrawal agreement by the 23-26 May, with failure to do so resulting in a hard exit on June 1, 2019. For now, all options remain on the table for the UK from approval of the existing deal, a different exit strategy (such as a customs union) or revoking Article 50. 

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Locally, Westpac Melbourne Institute's Index of Consumer Sentiment posted a 1.9% month-to-month rise to 100.7 in April, driven a boost from the 2019/20 Budget. Westpac's analysis showed that responses post-Budget were 7.7% stronger than those taken pre-Budget. A key aspect of the Budget was tax relief for low and middle-income earners and the detail indicated that this had been viewed positively. Around 15% of respondents anticipated the Budget measures to improve their finances over the next year and a further 51% expected to see no change. More broadly, the gain in the headline index was supported by improved expectations around family finances and the economic outlook. 

This week's speech from Reserve Bank of Australia (RBA) Deputy Governor Guy Debelle (The State of the Economy) was broadly consistent with recent commentary. The slowing in economic growth over the second half of 2018 was attributed to reduced household consumption expenditure, though mostly associated with weakness in income growth and entrenched expectations for that situation to continue, giving only some acknowledgment of a negative wealth impact from declining property prices. Again, labour market strength was highlighted and was assessed to be a surprising development given the slowing in output growth. Given this 'tension' as it has been referred to by the RBA, the Board has shifted to a data dependent approach (see here). Next month's updated forecasts will provide an indication of how the RBA anticipates the situation will evolve, potentially opening the door for a further dovish shift in its guidance.

Friday's half-yearly RBA Financial Stability Review noted that economic conditions, despite the recent slowing and housing market correction, were still consistent in supporting stability within the financial system. Notwithstanding, the risks for financial stability were highlighted as weakness in the global economic outlook and vulnerabilities in financial markets, high levels of household debt, further weakness in property prices and culture and governance concerns within the nation's financial institutions. 

Though global factors are likely to pose the greatest risk to the domestic economy, developments within the housing market tend to garner more focus. Here, the RBA noted that further price declines were likely as the large pipeline of supply comes onto the market, which could potentially lead to an increased tightening in credit conditions. In mitigation, declines in property prices are occurring while interest rates and the unemployment rate are low. Meanwhile, this week's housing finance data for February showed a surprising 2.7% month-to-month increase, with lending to owner-occupiers up by 3.4% and by 0.9% to investors (see our analysis here). This is likely to prove temporary given continued weakness in the more timely property price and auction clearance data.

Australian housing finance lifts by 2.7% in February

National housing finance approvals to owner-occupier borrowers firmed by more than expected in February, while the total value of lending excluding refinancing lifted by 2.7% in its strongest monthly result since March 2017.

Housing Finance — February | By the numbers

• The number of housing finance approvals to owner-occupiers (excluding refinancing) lifted by 0.8% in February to 32,234, which beat the market forecast for a 0.5% rise (prior revised: -0.8%m/m from -1.2%). Approvals through the year are down by 12.5% (prior rev: -14.3%Y/Y from -14.7%).

• The total value of housing finance commitments (excluding refinancing) increased by 2.7% in the month to $A17.64bnbn, which is an 18.6% decline from a year earlier (prior rev: -20.3% from -20.6%). 

• The value of commitments to owner-occupiers (excluding refinancing) posted a 3.4% rise in the month to $12.91bn to be down by 13.9% through the year. 
• Investment commitments (excluding refinancing) by value lifted by 0.9% — its first monthly rise since July 2018 — to $4.74bn, which is a 29.1% decline in year-on-year terms. 

Housing Finance — February | The details 

Excluding refinancing, the value of 'new' housing finance commitments posted a 2.7% rise in February (+$470.6m) in its fastest lift since March 2017 to an overall $17.64bn. The breakdown shows this was largely from owner-occupiers, with lending to the segment up by 3.4% (+$428.5m) to $12.91bn, though commitments made to investor borrowers also lifted slightly by 0.9% (+$42m) to $4.74bn. For the record, the last time when lending increased to both owner-occupiers and investors in a single month was in May 2018.

The ABS reported that the total value of refinancing commitments made during February lifted by 2.8% (+$228.7m) to $8.38bn (-11.9%Y/Y), which was driven entirely by a 5.0% rise (+$282.2m) from the owner-occupier segment, as investor refinancing pulled back by 2.2% (-$53.6m). 

Lending to households for renovation work lifted by 17.7% in February to $290.3m, which is 13.6% lower on the level from a year earlier. Click on the charts, below, for a full view.

Turning to the approvals side, the number of approvals written to owner-occupiers increased by 0.8% (+256) in February to 32,234. Approvals to purchase established dwellings posted a 0.7% rise (+172), with construction-related approvals rising by an overall 1.1% (+84) on mixed detail; loans for construction +2.5% (+136) but loans for newly constructed dwellings -2.4% (-52). The ABS does not provide approval details for investment commitments.  

The state detail showed that the national rise in loan approvals to owner-occupiers was led by a 4.8% (+426) increase in New South Wales, which was the fastest rise in that state since August 2017. Elsewhere, approvals lifted in Victoria (+0.3%), Queensland (+1.7%) and Tasmania (+2.3%), though South Australia (-0.3%) and Western Australia (-1.1%) recorded declines in February. 

The full breakdown of the national and state detail is provided in the table, below.  

Housing Finance — February | Insights

This result looks likely to be a temporary pause due to seasonality around the summer months rather than a turning point. As recently as last week, CoreLogic's Home Value Index showed national property prices down by 0.6% in March and by 6.9% through the year, with larger falls in Sydney and Melbourne. Meanwhile, auction clearance rates from the past weekend are likely to settle around the 50% level in Sydney and a touch higher in Melbourne consistent with further weakness in prices, though clearances have improved over recent weeks. 

Macro (Re)view (5/4) | RBA and Federal Budget in focus; trade deal draws near

Australian policy settings on both the monetary and fiscal sides were the key focus this week. The Reserve Bank of Australia's (RBA) monthly Board meeting concluded with the cash unchanged for the 29th consecutive occasion, though the Governor's statement indicated a slight shift towards a data dependent approach (see our review here). Meanwhile, the Federal Budget for 2019/20 confirmed plans to deliver fiscal stimulus through tax relief and infrastructure investment (read our full review of Budget 2019/20 here).  

At a speech in February, RBA Governor Lowe signaled a shift to a neutral stance by highlighting that the probability for the next move in interest rates in either direction appeared to be "more evenly balanced" than it had been. This week's meeting indicated a slight dovish tilt from that assessment. The final line of the Governor's statement was altered for the first time since March 2017 from "...the Board judged that holding the stance of policy unchanged... would be consistent with sustainable growth in the economy and achieving the inflation target over time" to "The Board will continue to monitor developments and set monetary policy to support sustainable growth in the economy and achieve the inflation target over time". This perhaps acknowledges Q4's soft GDP growth outcome of 2.3% year-on-year, which was well below trend growth and RBA forecasts and places increased importance on the data flow going forward, particularly on labour market indicators. The RBA provides its updated forecasts next month, which are expected to be downgraded from those published in February. 

The Federal Budget on Tuesday showed a greatly improved starting position compared with expectations outlined in December's mid-year update, driven by elevated commodity prices and lower expenditure, with the forecast for the 2019/20 surplus rising from $4.1bn to $7.1bn. The Government's strengthened fiscal position has provided the flexibility for tax relief to low and middle-income earners taking effect in the current financial year and for investment in infrastructure projects in several states. Both aspects are positive developments for the domestic economy, though it remains to be seen if the scale of the tax relief will notably lessen the headwinds facing the household sector from weak income growth and declines in net worth. For comparison, the opposition's budget reply contained tax relief that is more narrowly targeted at low income earners and a different composition for public spending focusing on health and education measures. 

Several data updates came to hand this week. Building approvals posted a volatile 19.1% rise in February, driven by the high-rise segment in Sydney and Melbourne, though the trend shows a decline of nearly 22% through the year (see our review here). The deterioration in residential construction activity is impacted by ongoing property price declines, with CoreLogic's Home Value Index showing a national decline of 0.6% in March, taking the annual fall to 6.9%. In positive news, retail sales posted a surprisingly strong outturn rising by 0.8% in February, its fastest monthly gain since November 2017 and well clear of the expected outcome of 0.3%, as annual growth lifted to 3.2% helping to alleviate concerns of a further slowing in household consumption (see our review here). Last but not least, Australia's trade surplus lifted to a record high at $4.8bn in February (see our analysis here) and features as the chart of the week (below). Surging iron ore prices are generating a tailwind for national income and bolstering the fiscal position of the Federal Budget.

Chart of the week

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From a global perspective, the main development this week were reports that the months-long US-China trade negotiations were nearing the end stage. Those expectations firmed on Thursday when US President Trump said that a deal with China could be potentially finalised within the next 4 weeks, though there was still progress to be made around the areas of tariffs and intellectual property rights. The trade tensions between the US and China weighed on global growth through the second half of 2018 and into the new year, so these developments were a strong tailwind for markets this week. Also supportive, Purchasing Managers' Index (PMI's) on both the official and private Caixin surveys for the manufacturing sector in China moved above the 50.0 level that signals expansion. PMI's covering China's services sector also firmed and point to increased activity levels going forward.  

In the US, the latest non-farm payrolls report rebounded strongly in March, with employment rising by 196,000 after a soft upwardly revised increase of 33,000 in the previous month. This outturn was well in front of the 177,000 addition forecast by markets. The unemployment rate remained at 3.8% and the broader underutilisation measure (U-6) held at the 18-year low of 7.3%, though the participation rate eased to 63.0% from 63.2%. Growth in average hourly earnings moderated from their decade-high pace of 3.4% to 3.2% through the year.       

The European Central Bank (ECB) minutes highlighted that the growth momentum in the euro area weakened towards the end of 2018 and had continued in the current year, impacted by a deterioration in the manufacturing sector, with the slower trajectory impacting the outlook for inflation towards the Bank's target. This prompted the Governing Council to shift out its forward guidance for rates to remain on hold from "the (northern) summer of 2019" to "at least through the end of 2019", and to also announce the introduction of a new round of targeted longer-term refinancing operations (TLTRO-III) offering the banking sector access to funding on favourable terms to drive lending to the real economy and thereby ensure the transmission of its expansionary monetary policy settings. There was little in these minutes around the latest consideration for the ECB relating to the potential introduction of a tiered deposit rate to alleviate concerns over the profitability of the banking sector due to a long-running compression of interest margins, though more analysis around this is likely to be communicated by the Bank in the near term. 

Brexit developments were a second-order consideration this week. The latest was that PM Theresa May and Opposition Leader Corbyn commenced negotiations to try and find a breakthrough in the impasse. This points towards an increased possibility of a soft-Brexit outcome, with the Opposition Leader in favour of moving to a customs union with Europe. Meanwhile, the lower house of the Commons voted in favour, by a majority of 1 vote, to a bill introduced by an opposition member to force PM May into seeking a delay to Brexit from the EU ahead of the upcoming April 12 cliff-edge date.