The Reserve Bank of Australia (RBA) left the official cash rate on hold today at 1.5%. Heading into the meeting the focus had shifted from the strength in the labourmarket to the weakness in inflation as a driver for a rate cut. However, just 10 days from an uncertain Federal election outcome, the RBA was likely to bide its time and maintain its neutral setting.
The labour market remains the key to the RBA’s outlook. Any signs of softness in the labourmarket data will mean a change to the inflation outlook and cuts to the cash rate this year.
On growth. The RBA was more upbeat than expected reiterating its stance that the economy would achieve an average growth rate of 2.75% this year. Activity in the resource sector would support the economy, along with increasing levels of infrastructure investment. The wild card was the expectation that wages will continue to rise lifting household disposable incomes and supporting consumption.
On inflation. The weakness in the first quarter inflation report was the driving factor behind a growing market expectation of a cut at today’s meeting. However, the RBA downplayed the softness in prices noting that low levels of inflation were a global phenomenon. The Bank still expects underlying levels of inflation to trend back to 2% by 2020 after sitting at a below target rate of 1.75% this year. This is only a small downward revision to the economic forecasts the RBA published in February (2.0% for 2019 and 2.25% for 2020), but represent the second consecutive downgrade to the inflation outlook. It will be difficult for the RBA to keep rates unchanged without damaging its inflation targeting credibility.
On the labour market. The RBA has placed an increasing amount of weight on the unemployment rate in recent communications as an indicator of economic health. Today’s statement was no different. The phrase “…a further improvement in the labourmarket was likely to be needed for inflation to be consistent with the target” suggests that any deviation from the current 5% unemployment rate would mean a cut.
The RBA played its cards close to the chest as usual, noting both the downside risks to global growth and points of strength in the local economy. Overall, expectations for an inflation rate that moves only slowly back to the very bottom of the target band in the coming years and the final comment on needing an improvement in the labourmarket has clearly opened the doors for rate cuts this year.