Independent Australian and global macro analysis

Friday, June 9, 2023

Macro (Re)view (9/6) | Committed to the cause

Rate hikes from the Bank of Canada and Reserve Bank of Australia surprised markets this week. With both central banks walking back from earlier pauses, the message sent was that there is no room for complacency given the risk of inflationary pressures remaining more persistent. Australian bonds underperformed global peers as RBA rate expectations were revised higher, driving the Australian dollar to a sharp increase over the week. A pivotal week is ahead highlighted by meetings from the Federal Reserve, European Central Bank, and the Bank of Japan. Markets have been guided to expect the Fed to "skip" a rate hike next week - though inflation data prior to the meeting will be closely monitored - while a 25bps hike from the ECB is all but assured; in Japan, reporting indicates there will be no tweaks to yield curve control. 

RBA turns more hawkish...

The RBA underlined its commitment to bringing inflation down to its 2-3% target as the Board hiked rates (+25bps) against expectations for the second meeting in succession, the cash rate now standing at 4.1% (more here). The Board judges that recent developments in wages and prices - both domestically and offshore - have put its objective of returning inflation to target "within a reasonable timeframe" at an increased risk. The retention of the guidance that additional tightening "may be required" and a notably hawkish speech from Governor Lowe suggests the RBA's work is not done yet. As a result, market pricing for the peak cash rate has pushed up towards 4.6%, a rise of around 50bps over the week.  

... as the Australian economy slows further 

Increased RBA hawkishness makes the growth and inflation trade-off - keeping the economy "on an even keel" as the Board speaks of - more challenging to balance. The Australian economy has shifted into the slow lane as the National Accounts reported real GDP softened to 0.2% in the March quarter from 0.6% in the December quarter last year. Growth through the year is still solid at 2.3%, but that has been underpinned by reopening factors, including rapid post-pandemic population growth and the recovery in the services sector, notably tourism and education. Households - facing headwinds from falling real incomes and rising interest rates - have moderated consumption growth (0.2%qtr, 3.5%yr), with spending rotating to essentials (1%qtr) from discretionary areas (-1.1%qtr). The household saving ratio came down to a 15-year low (3.7%) in the quarter, though savings built up during the pandemic remain substantial. My feature-length review of the March quarter National Accounts with in-depth analysis and more than 30 charts is available here

In other local news this week, Australia posted another elevated current account surplus at 1.9% of GDP in the March quarter on the back of the second-highest trade surplus on record (see here); the monthly accounts, though, reported a narrowing of the surplus in April to $11.2bn (see here).

OECD forecasts improved global growth outlook 

After global growth slowed materially in 2022, the OECD in its June outlook projected 2023 to be a year of stabilisation. The group revised up its forecast for global GDP this year to 2.7% from 2.6%, with growth of 2.9% (no change) expected in 2024. Declining inflation, China's reopening, strong labour markets and resilient household finances support the growth outlook. But the OECD categorises the risks as being to the downside; persistent inflation could require a longer period of restrictive interest rates, which would weigh on growth and potentially lead to stresses in financial markets. 

Headwinds emerge in US services sector 

US services sector activity came close to stalling in May according to the ISM gauge, which slid by 1.6% over the month to a 50.3 reading. The services sector has underpinned the US economy, with activity in the manufacturing sector contracting since late last year. But there were signs of weakness emerging in the services sector: the employment index (49.2) fell below the 50 line (into the contractionary zone) - though this contrasts with the strong 339k rise in nonfarm payrolls in May - and new orders (52.9) slowed sharply. The positive was that the prices paid component fell back to mid-2020 levels (56.2) as inflationary pressures faced by firms continued to ease. 

ECB to continue tightening 

A 25bps rate hike from the ECB next week is considered a done deal, with markets then expecting one more hike to round out the tightening cycle. However, comments from the ECB's Executive Board member Isabel Schnabel suggest those expectations could be too light; Schnabel said the risk of persistent inflationary pressures setting in still had the balance tilted in favour of overtightening rather than undertightening. She also highlighted that the ECB needed to see "convincing evidence" that inflation was on the way down to the 2% target, something that as yet remains elusive. Meanwhile, momentum in the euro area economy has faltered as revisions showed growth has contracted slightly (-0.2%) over the past two quarters.