The pressures from the Delta variant were starting to show in July as the strong momentum in Australia's labour market stalled. Employment was more resilient than expected rising by 2.2k in the month against an anticipated decline of 43.1k, but lockdown restrictions had broadened out to cover around 60% of the population in early August (reviewed here). July's relatively flat employment outcome was the net result of a sizeable fall in New South Wales (-36.4k) as the Sydney lockdown intensified offset by rises in most other states, led by Victoria (16.0k) as it reopened from lockdown 4. With the Sydney lockdown prompting a large number of workers in NSW to leave the labour force, a weakened participation rate (66.0% from 66.2%) was the key driver in the decline in the measured unemployment rate, from 4.9% to 4.6% — its lowest since 2008. In NSW, a sharp 1ppt fall in participation to a 12-month low at 64.9% cut the unemployment rate from 5.1% to 4.5%, despite the contraction in employment.
Given these crosscurrents, the cleanest read on labour market conditions comes from hours worked. It is here that the loss of momentum is clear with hours worked slowing to be just 0.7% above their pre-pandemic level compared to a peak of 2.9% in May (see chart below). In July, hours worked softened by 0.2% as a 7%m/m collapse in NSW was largely covered up by Victoria's reopening (9.7%m/m). But with lockdowns broadening out in August, hours worked are poised to fall well below pre-pandemic levels. While unemployment may have continued to fall, this has come alongside a rise in underutilisation in the labour market over June and July, highlighting the effects of lockdowns on economic activity. Since May, the underemployment rate has risen 0.9ppt to 8.3% and underutilisation is 0.4ppt higher at 12.9%.
Chart of the week
While momentum in the labour market has stalled, any thought that the earlier strength in the recovery may have seen wages growth starting to rise more meaningfully were dashed by another soft update of the Wage Price Index in the June quarter (reviewed here). Growth in the WPI eased to 0.4% in Q2 (vs 0.6% expected) from rises of 0.6% in the previous two quarters, and while the trajectory in annual growth remains higher as it continues to firm off its pandemic-induced fall to record lows last year, the pace is slow as it lifted from 1.5% to 1.7%. Beneath the surface, private and public sector wages are on divergent paths: wages in the private sector are on the improve, mainly because wage reviews postponed due to the pandemic are being revisited, but public sector wages have slowed to a new record low at 1.3%Y/Y under the weight of caps and freezes to limit expenditure growth. The private sector WPI lifted by 0.5%q/q while annual growth firmed from 1.4% to 1.9% but is still short of its pre-pandemic pace at around 2.1%. Highlighting that wage pressures are narrowly based, there are only 4 of the 18 surveyed industries where private sector wages growth is running above pre-pandemic rates and this is predominantly in services industries where specific skills have been harder for businesses to come across. Wages in construction (2.2%Y/Y) have risen above their pre-pandemic pace in response to the upswing in the residential sector.
In the minutes from the RBA's August meeting, while the Board reiterated that it opted not to delay the start of tapering its bond purchases (set down for September) in anticipation of a strong rebound once the current lockdowns ease and in recognition of the greater potency of fiscal support in the circumstances, it has not ruled out revisiting this stance. Indeed, the Board has signalled a preparedness to respond if the worsening pandemic situation leads to "a more significant setback" in the recovery. Arguably, this has unfolded since early August when there was a contraction of 'at least 1%' in Q3 GDP sitting in the Bank's forecasts — most market forecasts are in the order of a 2.5-3% fall in output. Meanwhile, the Board had discussed the downside risks to its expectations for the snapback in Q4 by noting the reopening from Delta could be "more gradual" than from previous lockdowns. That being said, the Board is clearly unsure of the marginal effect that delaying the taper would have, particularly when the more relevant window from a policy perspective 1-2 years ahead remains positive. Further to this, the minutes also noted that pricing in the rates market since the previous meeting had shifted slightly lower for 2023, indicating that tapering expectations had not been linked to a faster hiking cycle.
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Growth concerns and weak sentiment have weighed on markets at home and offshore over the week, prompting strength in the US dollar while the US yield curve has continued its flattening trajectory. Both the Australian dollar and Australian government bond yields were crunched in the moves. At the centre of these concerns is the Delta variant, with downside risks to economic outlooks increasing and uncertainty rising. Case in point is in New Zealand where the emergence of a small number of virus cases saw a national lockdown imposed, in turn leading to the RBNZ abandoning what was expected to be the announcement of its first rate hike since 2014. Also contributing to the risk-off tone was soft activity data from China early in the week — retail sales, industrial production and fixed asset investment all slowed more sharply than expected in July — which came on the back of the collapse in US consumer sentiment (-13.5% in July) reported the previous Friday. Key to the slide in sentiment has been the uplift in caseloads as the Delta variant continues to spread. The minutes from the Federal Reserve's meeting late last month outlined that there was caution within the Committee around the near-term outlook as a result, noting the there was a risk that the Delta outbreak could "damp the economic recovery". Perhaps, there was some sign of this in the decline in US retail sales in July, which were down 1.1% in the month on a headline basis (vs -0.3% expected) and -1.0% (vs -0.2%) in the control group.
The Fed minutes also backed up the recent messaging from many Committee members that the commencement of tapering is drawing near and could potentially start before the end of the year. Whether or not the rapidly evolving pandemic situation has since swayed the thinking within the Committee remains to be seen, though we have already heard from the Dallas Fed's Robert Kaplan — who has been calling for tapering to start in October — that he may have to adjust this view "somewhat" if the economy weakens. As the July minutes pointed out, developments in the labour market will be key to watch given that the inflation side of the Committee's mandate is currently being met. The very strong July non-farm payrolls report released after the recent Fed meeting suggested that progress toward its employment objectives was being made, but that will now need to hold up amid the headwinds from Delta. On tapering itself, several Committee members were keen to get across that it should be interpreted as providing stimulus "at a slower pace", rather than establishing a link with eventual rate hikes. Next week's speech from Fed Chair Jerome Powell at the annual Jackson Hole Symposium shapes as a key event in guiding markets towards its tapering plans.
