Macro (Re)view (4/10) | RBA cuts again as global sentiment weakens

In a widely anticipated call, the Reserve Bank of Australia cut the cash rate by 25 basis points this week to 0.75%. Since recommencing their easing cycle in June, the Board has cut by a total of 75 basis points to recalibrate policy to a domestic economy operating well below capacity and to keep pace with the global shift to more accommodative stances from other central banks as concerns over the growth outlook intensify. Tuesday's statement by Governor Philip Lowe highlighted that the decision to cut in October was taken to "support employment and income growth and to provide greater confidence that inflation will be consistent with the medium-term target" while also acknowledging "the trend to lower interest rates globally" given its impact on domestic growth and inflation (see our full review here).

In the 4 weeks since its previous meeting, there were a number of key developments offshore and domestically that factored into the Board cutting in October. Offshore, the US Federal Reserve and European Central Bank eased their respective monetary policy settings prompted by downside risks to the global economic outlook due to the ongoing trade and geopolitical tensions, and soft inflation pressures. Domestically, Q2's national accounts showed GDP growth had slowed from 1.8% to 1.4% year-on-year and was described as a "weaker-than-expected outcome", though the governor reiterated his assessment from last week, which was that he sees the economy may be at a "gentle turning point" given the stimulus from lower rates and tax cuts and a stabilising housing market. Clearly, much of this depends on the consumer — an ongoing source of uncertainty for the Bank — and retail sales data for August released during the week showed a 0.4% increase in the month (shown as our chart of the week, below), indicating only modest flow-through to date from the monetary and fiscal stimulus measures (see here).      

Chart of the week 

In looking ahead, the Board retains an explicit easing bias by noting that it is: "prepared to ease monetary policy further if needed to support sustainable growth in the economy, full employment and the achievement of the inflation target over time". The key here is the description of "full employment", which compares to the more modest objective of "reducing unemployment" used in the previous statement. Full employment has always been part of the RBA's mandate, though it perhaps provides some indication of the Bank's commitment to move to the necessary policy stance to achieve this objective, which is seen as key to returning inflation sustainably to within the 2-3% target band. Market pricing indicates a cut at the next meeting in November as around a 50/50 chance, though the domestic data flow and events offshore will be key in shifting this in either direction.

Also from the RBA this week was the release of its bi-annual Financial Stability Review. Despite noting the risks posed by external shocks, high household debt and from the housing market, the Bank appears sanguine by highlighting the system's improved resilience as a result of the implementation of post-GFC reforms. In particular, risks from the housing market appear to have receded somewhat given that house prices appear to be gathering momentum with a 0.9% rise on a national basis in September according to data released by CoreLogic this week (see here). However, risks from price acceleration could re-emerge down the track due to supply constraints with population growth expected to remain strong amid the ongoing deterioration in dwelling approvals, which this week showed a further 1.1% fall in August to a 6½-year low (see here). Lastly, the other point of note this week was an easing in the nation's monthly trade surplus from its second-highest on record at $7.25bn to a still highly elevated $5.9bn in August reflecting declines in iron ore prices (see here).

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Turning to events offshore where sentiment deteriorated on further signs of weakness in the global economy. This continues to be led by a manufacturing sector that remains in contraction on a global basis, though there were increasing signs that this is now spilling over into the broader services sector. In the US, the closely followed ISM manufacturing index slumped to a decade-low reading of 47.8 in September from 49.1, indicating a much faster contraction is now occurring in the sector that accounts for around 11% of national economic output. The main feature of the report underscored the impact of trade tensions and a weaker global economy, with new export orders sliding to their lowest level since March 2009, as demand-side concerns saw firms downwardly adjusting their inventory positions. Later in the week, the ISM non-manufacturing index showed the services sector remains in expansion at 52.6 in September, though that was slower than expected and down from 56.4 in the previous month. This was driven by slowing levels of activity, new orders, and employment, but all three are still rising. 

On employment, Friday's non-farm payrolls report contained mixed details with 136k jobs added in September compared to the consensus for 145k, while August's initially reported increase of 130k was revised up to 168k. Employment growth has clearly been slowing this year, with the annual pace now at 1.44% compared to 1.82% at the end of 2018, though the labour market is tight. The unemployment rate unexpectedly fell from 3.7% to 3.5% — its lowest since  1969 — and underutilisation, which includes unemployment and underemployment, fell from 7.2% to 6.9% — its lowest since 2000. This was despite the participation rate remaining unchanged at 62.3%. Somewhat strangely, annual growth in average hourly earnings slid to its slowest in more than a year; from 3.2% to 2.9%, though this can be a volatile measure. Markets saw enough in the data flow this week to move towards pricing in two more rate cuts before year's end. This was helped by comments from the Chicago Federal Reserve President Charles Evans that he was "open-minded" about adjusting rates as needed, though Vice-Chair of the Committee Richard Clarida was more measured in his remarks this week. 

Over in Europe, Markit's PMI of manufacturing activity in the bloc contracted further in September to its weakest in 7 years at a reading of 45.7 from 47.0. Most notably, the contraction in Germany intensified to a 10-year low of 41.7 compared to 43.5 in August, highlighted by renewed weakness in new orders and employment. Though still resilient, activity in the Eurozone's services sector is slowing, with Markit's PMI falling from 53.5 to 51.6 to be at its weakest since the beginning of the year. Taken together, the ongoing contraction in manufacturing and slowing in services sector activity pointed to an economy close to stalling from its pace in Q2 0.2% and 1.2% year-on-year. During a speech in Athens this week, European Central Bank President Mario Draghi reiterated that the Governing Council's recent stimulus measures demonstrated their commitment to respond to a weakening growth and inflation outlook, though the effectiveness of those actions would be enhanced by a greater contribution from fiscal policy.