Events from the past week in Australia were significant in terms of the messaging on policy from the RBA and also in the recovery of the labour market from the pandemic crisis. From the perspective of the RBA, the March Board meeting minutes published this week firmed up its commitment to keeping the 3-year segment of the yield curve anchored at its 0.1% target, pushing back against expectations in the market for an earlier tightening in policy. The key line from the minutes was that the Board had agreed that "it would not consider removing the target completely or changing the target yield of 10 basis points". When taken with the RBA's recent actions here that have included $7bn in 3-year bond purchases in late February, and then the announcement last week that the cost to borrow the bond lines that are the focus yield target policy from the central bank under repo had been significantly increased (from 25bps to 100bps) its commitment to holding down the front-end of the yield curve involves more than words. As a result, after drifting above the target over late-February to early-March, yields on 3-year Commonwealth Government bonds now sit below 0.1%. The question of whether the Board will opt to extend the yield target policy from the April 2024 bond to the November 2024 bond is now potentially a more open one for the market than a week earlier; a move which as discussed in last week's review shapes as likely in my assessment.
For the RBA, the key message is that keeping rates at the front-end of the curve low will give the economy the space it needs to build up to a sustainable post-pandemic recovery. The Board's discussion on the macro conditions domestically highlighted some welcome developments, notably the rebound in GDP growth and in the labour market, while the outlook now appears to be more assured. However, there remains uncertainty around the upcoming tapering of fiscal support, while wages growth is not anticipated to rise to a pace consistent with holding inflation sustainably within target (2-3%) over the forecast period out to mid-2023. Indeed, wages growth of above 3% is assessed by the Board as the level likely necessary for achieving the inflation mandate, but for that to occur the unemployment rate needs to be "materially lower", with Governor Lowe last week indicating this could be in the low 4% range. Over the months ahead, while the Board expects inflation to rise to 3%, it has been emphasised that this will be treated as a "transitory" spike coming on the back of supply-side bottlenecks and the reversal to pandemic relief measures. Underlying inflation that is forecast to stay below the 2% lower target out to mid-2023 clearly remains a much more prominent risk for the Board.
In terms of the labour market, the encouraging progress there in its recovery lifted pace with February's data coming in well above expectations (reviewed here). Employment surged up 88.7k in the month — nearly three times what was expected and its strongest outcome since October — advancing the total level to just above 13 million, which has seen it return to its pre-pandemic level 9 months into the reopening. In a continuation of the recent trend, it was again full-time employment driving the increase with the segment gaining momentum as economic conditions have strengthened. With participation broadly steady at 66.1%, the national unemployment rate was crunched lower to 5.8% from 6.3% (vs 6.3% expected), though as highlighted earlier, much greater inroads are being sought by the RBA. In the near term, the ending of the Federal Government's wage subsidy scheme and tapering of other income supports presents some risk to this progress, though this transition has to date been about as smooth as could have been hoped.
Chart of the week
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The major central banks dominated the news flow offshore this week, with the upshot being that long-end yields have repriced higher to factor in policy stances remaining very accommodative as economic activity rebounds. As was expected, the Federal Reserve left all settings unchanged, but the main focus going into this week's meeting was the difference in expectations for the timing for rates to start rising from near zero; markets seeing this occurring from as early as 2022 but the FOMC not until 2024. The release of Committee members' economic projections gave cause for markets to reassess. In an indication of what is to come from the FOMC under its average-inflation targeting regime, the Committee will be taking a much more reactionary stance than in the past where it will wait for clear signs in the data that it is achieving its goals before rates will start to rise. An accelerating vaccination rollout (which is now running around 2.5 million doses a day according to Bloomberg data) and the tailwinds from the Biden Administration's $1.9 trillion fiscal stimulus package led the Committee to revise up their GDP growth projections for 2021, with the median estimate stepping up to 6.5% from the 4.2% pace seen just 3 months ago. While growth then moderates, it is expected to remain well above trend in 2022 (3.3% from 3.2%) and 2023 (2.2% from 2.4%). Expectations for a faster economic recovery were reflected in better forecasts for unemployment and inflation; the former sliding back to pre-pandemic levels of 3.5% by 2023 and the latter rising slightly above its 2% objective by then, but crucially, the median estimate was still for rates to remain on hold through 2023. As Committee Chair Jerome Powell emphasised in the post-meeting press conference, the FOMC sees current settings (fed funds rate 0-0.25% and assets purchases of $120bn/mth) remaining appropriate until the economy is assessed to have reached its maximum level of employment, inflation is at the 2% target and is then forecast to rise moderately higher for a time.
Over in the UK, the latest Bank of England meeting saw the Monetary Policy Committee (MPC) maintaining an unchanged stance on rates and quantitive easing amid a cautious outlook for the economy. While recent developments such as the decline in virus cases and hospitalisations, the accelerating vaccination rollout, plans for reopening and the extension of government support measures provided optimism, the MPC warned that it remained highly uncertain how these effects would translate to the economy and that the pandemic had already left it its wake a material level of spare capacity. In its judgment, the MPC reflected in the minutes that the recent rise in gilt yields could be attributed to these optimistic factors, and given that financial conditions in the UK were "broadly unchanged" since the previous meeting, there was no cause for concern at this stage. Meanwhile, the Bank of Japan late in the week published its review into the operation of its monetary policy in which several adjustments were announced. Regarding its yield curve control, the BoJ has clarified that it will tolerate a band of -/+25 basis points around its current target of 0% on 10-year yields. Meanwhile, previous targets for its EFT-buying have been removed, though the upper ceilings have been retained to give the BoJ flexibility to ramp up purchases as and when required. A new funding scheme has also been established to provide incentives to financial institutions to boost lending.
