Macro (Re)view (29/4) | Domestic reappraisal

Risk sentiment in markets was under pressure over April as bond yields surged on the back of central banks indicating a willingness to do more in response to high inflation, an effort the RBA looks set to join. Growth concerns associated with the Ukraine war and lockdowns in China were also headwinds.  

RBA to hike rates in May...

Rates markets now expect the RBA to start hiking rates at next Tuesday's May meeting, bringing forward the timing from June following this week's Q1 inflation data. The previous expectation for liftoff in June was largely based around the RBA's guidance on waiting for confirmation that a tightening labour market is generating a pace of wages growth consistent with sustainable 2-3% inflation, with the wages growth data not due until 18 May. However, the repricing has come as headline CPI printed with a 5-handle for the first time since 2008 and as underlying inflation moved above the top of the RBA's target band to a 13-year high. 

My own view is that the RBA will hike by 15bps next week, as the May meeting will allow the Board to recalibrate its monetary policy stance to new economic forecasts (published next Friday), while it is also due to make a decision on the reinvestment of maturing bonds acquired under the QE program. From a communications standpoint, this seems a good time for the RBA to start gradually moving the policy rate away from its pandemic low of 0.1% with the economy still performing strongly.

...after inflation accelerated in Q1  

Headline inflation lifted from 3.5% to 5.1%Y/Y in the March quarter as the spillover effects from the Ukraine war drove up fuel (11%q/q) and food prices (2.8%q/q), while ongoing supply constraints added further to housing construction costs (5.7%q/q). A broadening of price pressures amid strong domestic demand conditions saw the trimmed mean (or underlying) pace up at 3.7%Y/Y from 2.6%. (Full review of the CPI report is available here) 

In a global context, Australian inflation pressures have been more modest than in other comparable economies but there was an acceleration in the March quarter. Disruptions to supply chains and higher commodity prices lifted the inflationary impulse from food significantly and increased the contribution to CPI coming from fuel. Australia's very large residential construction pipeline is leading to materials and labour shortages, and with government stimulus grants fading, housing construction costs are a major driver of inflation. 

Excluding the price changes from these more volatile items, Australia's underlying inflationary pulse is being driven by higher goods prices, reflecting the same supply/demand imbalances that has seen goods inflation surge offshore. Underlying goods inflation has jumped from a modest 2.9% to 5.2%Y/Y, its fastest since 2001. This compares with underlying services inflation of 2.6%Y/Y, which is higher than its range over recent years without accelerating in the manner goods inflation has. 

Terms of trade boost to support the Australian economy

Whereas some of the RBA's global central bank peers are facing the prospect of hiking rates into concerns over economic growth prospects as high inflation squeezes real incomes, Australia is a net beneficiary of surging commodity prices. In Q1, Australian export prices surged by 18% as the Ukraine war led to price rises in some of the nation's major commodities (coal 32%q/q, iron ore 24.8%q/q, natural gas 13%q/q and rural goods 5%q/q). With import prices up by a comparatively modest 5.1% in Q1, the nation's terms of trade surged in the order of 12% in the quarter. This boost to national income will help insulate demand from higher inflation.

US domestic demand is showing resilience  

An unexpected fall in Q1 US GDP growth belied resilience in underlying demand conditions. Real GDP contracted by 0.4%q/q in the March quarter, but the decline was driven by negative contributions from inventories and net exports, with the latter reflecting very large US trade deficits. Excluding these components, final sales to domestic purchasers (incorporating household, business and government demand) lifted by 0.6%q/q, up from 0.4% in Q4.

Household spending lifted by a solid 0.7%q/q, though detailed data showed a slowdown over February and March, with goods consumption contracting in both months. The surge in inflation from higher fuel and food prices looks to have weighed on discretionary consumption. Ahead of next week's Fed meeting, its preferred core PCE inflation rate came in at 5.2%yr in March, still very elevated but down slightly from the prior month. 

Meanwhile, the employment cost index — another closely watched measure by the Fed — lifted above expectations rising by 1.4% in Q1 to be up 4.5% over the year. A tightening labour market continues to generate pressure on wages and with concerns this could keep high inflation entrenched, the Fed is all but certain to hike rates by 50bps next week.  

Euro area inflation rises further as GDP growth slows

Despite a retreat in energy prices following their war-driven surge, preliminary inflation readings in the euro area showed further increases in April as GDP growth in the first quarter was weighed by the Russian invasion of Ukraine and lingering Covid effects. Headline inflation firmed from 7.4% to 7.5%yr, with rising food, goods and services prices more than offseting a fall in energy prices in the month following government tax cuts. A material rise in the core inflation rate to a record high at 3.5%yr from 2.9% pointed to broadening price pressures in the bloc, with the war and supply chain disruptions contributing factors. 

From a growth perspective, momentum in the economy has slowed sharply over the past two quarters after GDP had recovered to its pre-Covid level. First quarter GDP growth was posted at 0.2% following the 0.3% expansion in the final quarter of 2021. The ECB expects slow growth ahead with the war and high inflation weakening confidence and the lockdowns in China posing further risks to supply chains. That is restraining the ECB's guidance on tightening, but markets are priced for the ECB to hike rates at least twice by the end of the year due in response to the inflation pressures.  

BoJ remains dovish 

A downward revision to the 2022 economic growth outlook in Japan from 3.8% to 2.9% in response to the headwinds from Omicron and the Ukraine war left the BoJ showing no sign it was close to reducing stimulus at this week's meeting. The BoJ's key decisions included a commitment to make daily bond purchase in defence of its yield curve control policy. This led to further weakness in the JPY, which is trading at 20-year lows to the USD.

Australian Q1 CPI 2.1%, 5.1%Y/Y

Australian annual headline inflation printed with a 5 handle in the March quarter for the first time since 2008, while underlying inflation on the trimmed mean measure accelerated above the top end of the RBA's target band to a 13-year high at 3.7%. The light has turned green for the RBA Board to start its hiking cycle at next week's meeting, lifting the cash rate target by 15bps to 0.25%. 

Consumer Price Index — Q1 | By the numbers 

• Headline CPI printed 2.1% in Q1, stronger than the 1.7% pace expected and up from 1.3% in Q4. The seasonally adjusted CPI was up 2%q/q, lifting the annual pace from 3.6% to 5.2%. 

• The underlying CPI measures (seasonally adjusted) came in either side of estimates but are now above 3% in annual terms:

• Trimmed mean was 1.4%q/q (vs 1.2%), with the annual rate up at 3.7% (vs 3.4%) from 2.6%.

• Weighted median posted at 1.0%q/q (vs 1.2%), with the year-on-year rate rising from 2.5% to 3.2% (vs 3.3%). 

Consumer Price Index — Q1 | The details 

As seen globally, consumer price inflation in Australia has accelerated over the first quarter of 2022 with the spillover effects from the war in Ukraine accentuating existing supply/demand imbalances. Headline inflation on both the quarterly (2.1%) and annual rates (5.1%) saw their fastest increases since the introduction of the GST in 2000. Reflecting a broad-based rise in price pressures across the economy, trimmed mean underlying CPI lifted sharply in Q1 (1.4%q/q) to 3.7%Y/Y and is above the RBA's 2-3% target band for the first time in 12 years. 

Surging fuel prices (11%q/q) and higher base prices for new dwelling construction (5.7%q/q) with the HomeBuilder grants scheme winding down remained major drivers of headline inflation, while food prices lifted 2.8%q/q to add a new material impulse to inflation on the back of higher fertiliser and transport costs and supply-related disruptions. Were it not for the pandemic recovery dining-out voucher schemes in Sydney and Melbourne, food prices would have risen by more. All up, fuel, new dwellings and food accounted for three-quarters of the rise in quarterly headline inflation. Outside of these drivers, education costs lifted 4.5%q/q to make a sizeable contribution to quarterly CPI due to the recalibration of tertiary fees.    

With the Ukraine war leading to supply disruptions, Australian fuel prices posted an 11% surge in Q1 to be up 35.1% over the year. This alone has contributed 1.3ppts to headline inflation over the past year. There will be a pullback in Q2 due to the excise tax cut announced by the federal government in its recent Budget. 

New dwelling costs continue to rise as the dampening effect on developers' base prices from the HomeBuilder grants scheme winds down and as the very large pipeline of residential construction work drives ongoing materials and labour shortages. In the quarter, new dwelling prices were up 5.7% and surged to 13.7%Y/Y. Rents saw their fastest quarterly rise in more than 7 years (0.6%q/q). Although the annual pace is modest (1.0%), this will rise slowly reflecting the tightening in capital city rental markets and will become a driver of inflation. 

Food prices overall increased by 2.8% in the quarter to be up by 4.3% over the year. This leaves annual food inflation at its fastest since Q3 2011. Strong quarterly increases were seen in meats and seafoods (4.8%), fruit and vegetables (5.8%) and non-alcoholic beverages (5.9%). 

Where there was some relief for consumers was in durable goods, with price pressures easing after supply/demand imbalances had driven strong increases over the pandemic recovery. There were price declines in the quarter in furniture and furnishings (-2.5%), clothing and footwear (-0.6%) and AV equipment (-0.2%). Meanwhile, new vehicle costs continued to rise but at a more moderate pace (1%) than in recent quarters. 

  

Consumer Price Index — Q1 | Insights 

Australian CPI came in well above expectations in the March quarter with the effects of the Ukraine war accentuating existing supply constraints amid strong domestic demand conditions. Underlying inflation has accelerated above the top of the RBA's 2-3% target band for the first time since 2010 ahead of next week's Board meeting, where it will also have a new set of economic forecasts to factor into its decision. Although the Board has stressed the importance of the upcoming wage data (due 18 May), I think today's CPI data will prompt the Board to change course and deliver its first rate hike for the cycle next week, lifting the cash rate target by 15bps to 0.25%.   

Preview: Australian Q1 CPI

Australia's March quarter CPI inflation data are due to be released by the ABS at 11:30am (AEST) today. With the spillover effects from the Ukraine war adding to existing supply constraints, headline inflation is expected to have accelerated in the quarter to 4.6%Y/Y with fuel, new dwelling costs and food the major contributors. Broadening price pressures are forecast to drive underlying inflation above the top of the RBA's target band to 3.4%Y/Y. Upside surprises to these key inflation rates could prompt the RBA Board to commence its rate hike cycle at next week's May meeting.     

As it stands | CPI 

Inflation surprised to the upside of market expectations in the December quarter. Headline CPI printed at 1.3% in the quarter, lifting the annual rate from 3% to 3.5%. Underlying inflation measures saw their fastest quarterly increases since at least 2009 as the annual pace returned to the midpoint of the RBA's 2-3% target band for the first time in 7 years. Trimmed mean CPI was 1% in the quarter and 2.6% over the year while the weighted median CPI came in at 0.9%q/q and 2.7%Y/Y. 

Rising petrol prices and higher base prices for constructing new dwellings due to fewer grants being paid out under the HomeBuilder scheme remained the main drivers of inflation. However, the key development over the December quarter was the broadening of price pressures. This included prices of consumer durables picking up, with clothing and footwear a key contributor following widespread discounting during the Delta lockdowns in Q3. Meanwhile, eased border restrictions led to rising domestic travel costs. For a full review of the Q4 CPI data see here.  

Market expectations | CPI

For headline CPI, the consensus forecast is for the quarterly rate to come in at 1.7% (range: 1.4% to 2.0%) on the back of rising prices for fuel, new dwellings and food. This would lift the annual pace up from 3.5% to 4.6%, its fastest since Q3 2008. 

Underlying inflation pressures are expected to rise further after picking up over recent quarters. The key trimmed mean CPI is forecast to print at 1.2% in the quarter, driving the annual rate up from 2.6% to 3.4%. If realised, this would see the trimmed mean at its fastest annual pace since Q2 2009. The forecasts for the weighted median CPI are at 1.1%q/q and 3.3%Y/Y.  

What to watch | CPI 

An upside surprise on CPI, particularly for the underlying measures, could see markets pulling forward their expected timing for the first RBA rate hike from June into next week's May meeting. Current pricing is firming around a 40bps hike in June as consensus, allowing the Board to take in the Q1 Wage Price Index data (due 18 May). But if today's CPI numbers print above expectations, it will lead to larger upward revisions to the RBA's forecast tables in its May quarterly Statement on Monetary Policy (due 6 May). That could prompt the Board to hike next Tuesday, which if it did would likely be a 15bps increase to 0.25%.  

Macro (Re)view (22/4) | Global growth headwinds intensify

Comments from US Federal Reserve Chair Jerome Powell supported the market narrative that central banks are on the path to quickly returning policy toward neutral settings, even as headwinds to global growth are intensifying. Volatility in the fixed income markets remains high with implications for equities while strength in the US dollar index has extended to be trading around 2-year highs.  

IMF downgrades global growth, upgrades inflation outlook 

The IMF this week outlined the increasingly complex economic outlook that has unfolded following the Ukraine war, with rising inflation pressures intensifying the headwinds to growth. For policymakers, this outlook has exacerbated the trade-off between needing to stabilise inflation while at the same time safeguarding growth prospects. Forecasts for global GDP growth have been lowered this year from 4.4% to 3.6% and in 2023 from 3.8% to 3.6%, with the Russian invasion of Ukraine, the withdrawal of monetary and fiscal support, a slowdown in China and the ongoing effects of the pandemic the factors cited as driving the downward revisions. At the same time, with the war adding to existing supply-driven inflation pressures through higher commodity, energy and food prices, forecast inflation in 2022 for advanced economies was lifted from 3.9% to 5.7%, and from 2.1% to 2.5% in 2023. 

The largest 2022 growth downgrades were in Russia and Ukraine stemming from the direct impacts of the conflict, while the spillover effects on supply chains and energy prices have dented growth prospects in the euro area (3.9% to 2.8%), particularly in Germany and Italy due to their significant manufacturing sectors. With the Fed hiking rates and the Congress unable to agree on the passage of fiscal stimulus, forecast US growth in 2022 was cut from 4% to 3.7%. With China persisting with its zero-Covid approach, the associated lockdowns and restrictions have seen its growth outlook fall from 4.8% to 4.4%. Against the run of play, Australia was one of the few major economies to receive a growth upgrade, with the 2022 forecast lifted from 4.1% to 4.2%.  

Source: IMF

RBA minutes detailed the Board's hawkish pivot 

The hawkish pivot from the RBA to remove its patient guidance came about due to the likely timing of the first rate hike being "brought forward" with inflation pressures rising and wages growth firming according to the April meeting minutes. Markets expect the cash rate to start rising in June, though they are giving some chance of liftoff in May and that could firm if next week's Q1 CPI data comes in stronger than expected (1.7%q/q, 4.6%Y/Y). Factors that will be key throughout the RBA's hiking cycle will be the evolution of price and wage pressures, with the former largely being driven by supply constraints and the latter picking up but yet to reach levels consistent with sustainable 2-3% inflation. The minutes also revealed international developments will also be influential. The observations from the Board were that tightening expectations had become more frontloaded but that policy rates were likely to peak lower than in previous cycles due to the risks to the downside risks to the global growth outlook. 

Fed Chair Powell endorses faster tightening

During an IMF panel discussion, US Fed Chair Jerome Powell made clear his intent was to step up the pace of monetary policy tightening to counter high inflation saying that it was "...absolutely essential to restore price stability". The key message Chair Powell wanted to get across was that the FOMC will be moving "expeditiously" in returning the policy rate to a more neutral level by the end of the year. This validated market expectations for a larger 50bps hike in May, which is expected to be followed up by two further 50bps hikes in June and July. Given the current inflation pressures, Chair Powell said it was appropriate to be removing accommodation more quickly than in the past, though there was recognition of the challenge the Fed is facing in trying to deliver a soft landing. For the time being, the strength of the US economy and tight labour market is giving the FOMC confidence that it can withstand substantial monetary policy tightening.      

Caution marks the outlook in Europe...

Compared to the US, the euro area economy is in a more fragile position, highlighted by the IMF growth downgrades, while also facing significant inflation pressures. The IMF panel discussion was also attended by ECB President Christine Lagarde who was more cautious in her outlook for policy saying that the supply shock-driven rise in inflation called for a gradual and sequential response. President Lagarde also noted that although headline inflation was 7.4%yr in March, the core rate was 2.9%yr (both readings were revised 0.1ppt lower this week), a more manageable situation than in the US. However, markets picked up on the hawkish shift from ECB Vice-President de Guindos who called for asset purchases to be brought to an end in July, opening the door for rates to start rising from then onwards.

... and increasingly in the UK as well 

Bank of England Governor Andrew Bailey spoke of the fine line the MPC was treading in hiking rates to bring down inflation at the same time as growth prospects were coming under pressure from the negative shock to real incomes. MPC member Catherine Mann said in a speech this week that the evolution of the BoE's hiking cycle hinges on the responsiveness of consumer demand to the surge in inflation. The early indications are that the impacts are material as retail sales volumes came in much weaker than expected falling by 1.4% in March as consumer confidence deteriorated to its lowest since 2008.   

Macro (Re)view (15/4) | Gaining traction

A slight miss on core CPI inflation in the US during the week and expectations for a more frontloaded response from the Fed, with 50bps hikes priced for the next two meetings and the start of balance sheet reduction, saw markets pare back slightly their expected peak for policy rate for this tightening cycle. The RBNZ and BoC are already frontloading their return to more neutral stances with both announcing 50bps hikes. The RBA looks set to start hiking rates in June, while the ECB reaffirmed its gradual path to normailsation. 

Australian labour market continues to tighten

Despite a slowing in employment to 17.9k in March (vs 40k expected) following flood disasters in two major states and the ongoing headwinds from the pandemic, the Australian labour market continues to tighten (full review here). The measured unemployment rate held steady at 4% (vs 3.9% expected), but underemployment (6.3%) and underutilisation (10.3%) declined, with all key indicators at 14-year lows. 

Highly elevated job vacancies point to employment accelerating again that should see labour market conditions tighten further and put upward pressure on wages. There were signs of this in the NAB's March Business Survey that showed a rise in wage costs, though the sense is that the RBA will wait for confirmation in the aggregate wages data for Q1 (due mid May) before starting to hike rates. With March's labour market report coming in softer than expected, it has allowed the expected timing for the first RBA rate hike to stay at June. The anticipation of forthcoming rate hikes and the impact of higher inflation saw consumer sentiment on the Westpac-Melbourne Institute's index extending its recent fall with a 0.9% decline in April, though confidence in the labour market and the economic outlook improved from the prior month and remain at robust levels.     

US core CPI missed expectations  

Key US inflation rates for March showed further increases this week, though for markets well accustomed to upside surprises a below-consensus print on core CPI provided optimism that the peak could be near. The headline CPI rate pushed up from 7.9% to 8.5%yr (vs 8.4% expected), though it was the slower-than-forecast rise in the core rate from 6.4% to 6.5%yr (vs 6.6% expected) that drew the attention of markets. The case for peak inflation relies on a combination of aggressive Fed tightening (including rate hikes and QT) slowing demand and base effects, with a sequence of high monthly readings from last year about to roll into the annual calculation, setting the bar higher for inflation to keep rising.   

Case in point is durable goods, which has been a major contributor to the surge in inflation over the past year driven by very strong demand running up against supply chain pressures. In March, durable goods prices fell by 0.9%, its first month-on-month fall since January last year, easing the annual rate from 18.7% to 17.4%. The main driver was a 3.8%m/m fall in used cars and trucks. Durable goods inflation surged through April-June last year, so if March's reading is any signal, then there could be a notable slowing over the coming months, putting downward pressure on CPI. However, many will point to price rises in components such as food (8.8%yr), housing (5%yr), and energy (32.2%yr) as factors that will moderate a durable goods-driven slowdown in inflation.  

ECB reaffirms timeline to end asset purchases 

Recognition of the surge in inflation to record highs in March led the ECB's Governing Council at this week's meeting to "reinforce its expectation" to wind down bond-buying under its APP program in Q3. The current timeline will see APP net purchases gradually reduce over the current quarter (€40bn in April, €30bn in May and €20bn in June), and barring a severe growth slowdown from the war in Ukraine over the summer, net purchases look set to be brought to a conclusion in Q3. 

In the post-meeting press conference, ECB President Christine Lagarde said that APP net purchases could end any month in Q3, while the guidance for rates to start rising "some time after" the conclusion of net purchases remained intact and could refer to a period anywhere "...from a week to several months". As its stands, the earliest rates could start rising is at the late July meeting. There was also some discussion around a potential backstop facility that could be deployed post-APP to limit yield spreads between countries from widening too severely. The decision statement noted "flexibility in the design and conduct of asset purchases" had been beneficial through the pandemic and President Lagarde said a new instrument could be formulated "in short order" if required.  

UK inflation continues to rise 

Inflation in the UK elevated to new 30-year highs, surprising to the upside of expectations in March as the effects of the Ukraine war flowed through to higher prices for energy, petrol and food. Headline CPI lifted from 6.2% to 7%yr (vs 6.7% expected) and the core rate was up at 5.7%yr (vs 5.3%) from 5.2%. A sharp rise approved by the energy regulator to the base tariff for household energy bills will show through next month, which could test the Bank of England's assessment for inflation to peak at 8% in Q2. This will put pressure on the BoE to tighten policy further (so far it has delivered 65bps of hikes), though it appears unlikely to hike by as much as markets expect through the remainder of the year given its caution around the growth slowdown from falling real incomes signalled in its March decision statement. 

RBNZ and BoC hiked their policy rates by 50 basis points 

High and rising inflation prompted both the Reserve Bank of New Zealand and Bank of Canada to frontload their monetary policy tightening by announcing larger-than-usual rate hikes of 50bps this week, taking their benchmark interest rates to 1.5% and 1% respectively. The RBNZ said it was taking a "path of least regret", accelerating the return to a neutral rate setting to avoid the risks posed to the economy from a prolonged tightening cycle that would be required if high inflation became embedded into expectations. 

The BoC in its latest Monetary Policy Report forecast inflation to rise further above its 2% target on the back of the effects of higher commodity prices and supply chain disruptions stemming from the war in Ukraine; the key inflation forecasts have been revised up in 2022 to 5.3% (from 4.2%) and 2023 to 2.8% (from 2.3%). In addition to hiking rates, the BoC will commence reducing its balance sheet (from April 25) by ceasing reinvestments of maturing bonds.  

Australian unemployment rate steady at 4% in March

Australia's unemployment rate remained at 14-year lows coming in at 4% in March. The flood disasters in New South Wales and Queensland and ongoing pandemic headwinds contributed to a slower rise in employment and fall in hours worked during the month. The labour market continued to tighten and elevated job vacancies should generate more progress in the months ahead, consistent with a June start to the RBA's rate hike cycle. 

Labour Force Survey — March | By the numbers

• Employment lifted by a net 17.9k in March, weaker than the 40k rise expected and well down from February's 77.4k increase.

• National unemployment remained at 4%, slightly falling short of printing at the 3.9% level expected.

• Labour force participation was unchanged at 66.4%. 

• Hours worked declined by 0.6% over the month, with the effects of the flooding in New South Wales and Queensland and ongoing Omicron isolation requirements weakening the momentum from February's rebound (8.9%m/m).  

Labour Force Survey — March | The details

The Australian labour market continued to tighten in March, though employment slowed and hours worked fell due to the flooding disasters in New South Wales and Queensland and the ongoing disruptions from Omicron. Employment slowed to a 17.9k rise on the month, its weakest outcome since October, with full time employment rising by 20.5k but part time employment falling by 2.7k. The floods contributed to employment falling in New South Wales (-0.3k) and slowing in Queensland (8.0k). Victoria also posted a weak outcome (-2.7k).  

Hours worked declined in March (-0.6%m/m) and reflected the disruptions businesses faced from staff absences from the floods and Omicron. The ABS reported that 504k Australians worked fewer hours than usual due to bad weather (or plant breakdown), a surge from the series average of just over 40k per month. Accordingly, the weakness in hours worked was centred in New South Wales (-1.6%m/m) and in Queensland (-2.3%m/m). 

Omicron remains a key factor behind staff shortages, with 577k people working fewer hours due to illness or sick leave; this is down from January's peak (746k) but still very elevated. Media reports over recent days around disruptions to capital city airports in particular in the lead-up to the Easter holiday period suggest Omicron-related absences have remained an issue in April.  

Factoring in the decline in March, growth in hours worked on a pre-Covid comparison eased to 2.1% from 2.7% in February. Growth in employment over the Covid period was little changed at 3% from 2.9%. 

With the participation rate remaining steady at record highs at 66.4%, spare capacity in the labour market was still falling through March despite the slower rise in employment. Note that participation in New South Wales was steady (65.5%) and fell in Queensland (66.6%), likely with some impact from the floods. The share of the working-age population employed has never been higher in the nation's history (68.8%).   

The unemployment rate was posted at 4%, though it just missed printing at 3.9% (it fell from 4.04% to 3.95% taken at two decimal places). Despite the decline in hours worked, both underemployment (6.3% from 6.6%) and underutilisation (10.3% from 10.6%) fell in March. Reported to the standard convention of 1 decimal place, national rates of unemployment, underemployment and total underutilisation are at their lowest since 2008. 

Labour Force Survey — March | Insights

Employment slowed to a 0.1% rise in March on temporary flooding and Omicron effects, but labour demand remains very strong, pointing to stronger employment outcomes, a tighter labour market and faster wages growth ahead. Data for job vacancies out earlier in the week showed a 3.7% rise in March, keeping vacancies as a share of the labour force at very elevated levels. Market expecations for the first RBA rate rise in June look on track.     

Preview: Labour Force Survey — March

The ABS is due to publish Australia's monthly Labour Force Survey for March today at 11:30am (AEST). With the economic expansion accelerating following the Delta setback, employment has surged over recent months driving a rapid tightening in the labour market. Going into today's report, the unemployment rate is on the verge of falling into the 3s and to its lowest since the 1970s. 

As it stands | Labour Force Survey

The labour market continued to tighten in February as employment surged by 77.4k (consensus was for a 37k rise), with more tightening to come given the elevated level of job vacancies. The national unemployment rate fell to its lowest since 2008 after declining from 4.2% to 4.0%, while a rebound in hours worked (8.9%m/m) helped drive falls in underemployment (6.6%) and overall underutilisation (10.6%) to 14-year lows.  Labour supply is responding to the tightening labour market, lifting for the 5th month running to print at a record high of 66.4%.  

Employment has risen at pace since the Delta lockdowns, with February's outcome the 4th above-consensus result in succession. The 77.4k increase followed January's 28.3k rise, which was revised up from 12.9k despite coinciding with the peak of the Omicron wave. Full time employment accounted for all of February's increase (121.9k) as part time employment came off (-44.5k) after its recent surge. On a pre-Covid level comparison, total employment has risen by 2.9% since March 2020, led by full time employment (4.1%) with part time employment modestly higher (0.4%). 

Hours worked rebounded by 8.9% in February from a disrupted opening month to 2022 (-8.6%m/m) when many people were away from work due to Omicron isolation or were taking annual leave. February's rebound lifted hours worked to 2.7% above their pre-Covid level, broadly in line with the rise in employment over the period. The full review of February's report is available here. 

Market expectations | Labour Force Survey

Employment is expected to ease back to a 30k rise in March around a range of estimates from -25k to 60k. The ABS's high frequency payrolls series reported a softening over the month to the reference period for the March survey (-0.6%), which was partly attributed to the effects of the flood diasters in New South Wales and Queensland. 

The national unemployment rate is expected to print with a 3 handle in March, with a decline from 4% to 3.9% anticipated. If achieved, this would be the first time since 1974 that the unemployment rate has fallen below 4%, taking out its pre-financial crisis low in the process. Given its recent momentum, the participation rate may rise further from February's record high of 66.4%. 

What to watch | Labour Force Survey

Rising inflation pressures and a tightening labour market led to a hawkish pivot from the RBA at last week's meeting that indicated the Board was close to raising its cash rate target from its pandemic low of 0.1%. A strong report today would be further vindication for markets and would likely be seen as a green light to move to price in a larger 40bps hike to 0.5% in June. The broader context is that the nation is on the verge of a historic moment with the unemployment rate set to fall to be pressing 50-year lows not even 2 years on from the depths of the pandemic recession that sent the unemployment rate soaring to its highest since the late 1990s at 7.4%.  

Macro (Re)view (8/4) | Stepping up the pace

New insights from the Fed supporting larger rate hikes and a rapid reduction of its balance sheet weighed on risks assets through the week but led to the yield curve steepening after its recent inversion and boosted the US dollar. In Australia, the RBA's hawkish pivot has firmed expectations for a June lift-off in the cash rate. 

RBA looks set to commence hiking the cash rate in June

The RBA left the cash rate unchanged at 0.1% but the patient stance that has guided the Board's messaging on hiking rates since it started the process of removing pandemic policy support in November was retired at this week's meeting, signifying a hawkish tilt with inflation pressures building. Following the earlier withdrawal of the 3-year yield target and winding up of QE, the RBA has been reluctant to move to raising rates in response to higher inflation in the absence of an acceleration in wages growth from a tightening labour market. But with the RBA's inflation forecasts set to be revised higher in May due to the spillover effects from the Ukraine war on petrol prices and supply chains, the Board no longer feels its patient message is appropriate. 

Governor Philip Lowe's decision statement continued to highlight the importance of labour costs picking up to sustain inflation in the 2-3% target band and notes the Board will be watching closely the relevant data "over coming months". In response, the consensus has firmed on June as the timing for the first rate hike, though economists favour a 15bps increase to 0.25% whereas markets are moving to price in a larger 40bps hike to 0.5%. Markets are also more aggressive on their call for where the cash rate will end 2022 at around 2% compared to 1% or just above for economists. For more on Tuesday's RBA meeting see here. Meanwhile, the RBA's semi-annual Financial Stability Review reported many households have built up substantial buffers on their mortgages over the Covid period, though higher debt levels had increased the sensitivity of spending to higher interest rates.  

Australia's trade surplus narrowed in February

A 12.1% surge in import spending led to a sharp narrowing in the trade surplus to $7.5bn in February (reviewed here). Rising imports were driven by consumption goods (16.5%m/m), reflecting the strength of domestic demand conditions, and intermediate goods (16.9%m/m) on the back of higher petrol and input prices. Exports held flat in the month but are expected to accelerate due to the Ukraine war pushing up the prices of the nation's key commodities.  

Also out this week in Australia, retail sales were confirmed to have risen at a solid 1.8% pace in February, led by a 4.8% acceleration in spending across the discretionary categories (reviewed here). The data confirmed that robust spending was still occurring despite the weakening in consumer sentiment measures of late. In the labour market, the latest reading from the ABS's high frequency payrolls index showed a softening over the month to mid-March (-0.6%) but was attributed to the disruptions from floods in New South Wales and Queensland. 

A hawkish Fed outlined its plan for balance sheet reduction   

Recent comments from Fed officials following the mid-March meeting had clearly conveyed the need for a more aggressive policy response to high inflation, with a speech from Governor Brainard early in the week continuing that theme. The hawkish messaging from FOMC members reflected a broad consensus around the Committee table that was revealed in the meeting minutes, published this week. The key developments were that "many participants" would have preferred to commence the rate hiking cycle with a larger increase of 50bps but were held back by the Ukraine war, settling on a 25bps increase instead, while the pace of balance sheet reduction is set to occur at almost double the pace of the previous episode in 2017-19. 

Consistent with earlier post-meeting commentary, the minutes noted "many participants" assessed that "one or more 50 basis point increases" in the policy rate may be needed if inflation pressures "remained elevated or intensified". On the balance sheet, the Fed as part of normalising policy needs to tighten financial conditions, which were being eased by its large-scale bond purchases since the outset of the pandemic. This will be achieved by allowing maturing bonds to roll off its $9tn balance sheet, with the pace of reduction planned to be phased in over a 3-month period (expected to start in May), working up to $60bn/mth for US government bonds $35bn/mth for mortgage-backed securities (MBS). Sales of MBS will be considered later down the track. That plan would equate to $95bn/mth of balance sheet reduction, which compares to a peak pace of $50bn/mth in 2017-19, the only other occasion the Fed has attempted quantitative tightening.  

ECB's Governing Council settled on a compromise in March 

With inflation surging and the Ukraine war denting growth prospects in the euro area, the ECB's Governing Council settled on what was described in the account of the March meeting as a "balanced compromise". The hawkish members had pressed for a "firm end date" on QE sometime in the summer to pave the way for rate hikes in the third quarter so as to avoid the risk of "falling behind the curve" on inflation. However, the doves argued for a "wait-and-see" approach given the uncertainty posed to the economic outlook by the Ukraine war. 

In the end, a more accelerated tapering of QE was announced, though optionality has been retained that could allow for purchases to be extended into the third quarter, while it also altered its guidance for rate hikes by noting they would occur "some time after" the end of QE in an attempt de-link the two. Going into next week's meeting, the acceleration in inflation to record highs for both the headline (7.5%) and core rates (3%) in March will give the hawks more fuel to push for a more aggressive response.