Reserve Bank of Australia: A third pause for reflection
At their last monetary policy meeting of the year on 5 December, the Reserve Bank of Australia (RBA) left the Overnight Cash Rate (OCR) unchanged at 4.35% (Fig 1a). This was in line with market expectations, with 30 out of 31 economists surveyed by Bloomberg predicting rates would remain unchanged. Following last month’s surprise rate hike, the RBA justified the latest pause by noting the limited amount of economic data since their last meeting. Meanwhile, the central bank observed that the impact of recent rate hikes would “continue to flow through the economy”, implying that “holding the cash rate steady… will allow time to assess the impact of the increases in interest rates on demand, inflation and the labor market”.
Slowing: but slow enough?
Since the RBA’s rate hike in early November, economic data has been mixed. Ostensibly, growth and spending remain relatively robust; however, the data has been boosted by high immigration, masking a per-capita basis decline in consumer consumption. This should be implausible given wage growth “picked-up in the September quarter”, employment remains strong (Fig 2b) with labor market conditions still “tight” and house prices “continuing to rise across the country”. Unfortunately, offsetting these trends, higher interest rates and cost of living pressures are increasingly weighing on consumer sentiment and demand.
While the November rate hike was triggered by the view that “progress on bring inflation back to target… was looking slower than earlier forecast”, notably the latest monthly inflation slowed faster than expected to 4.9%y/y (Fig 2a). The RBA welcomed the news, but cautioned it was mainly due to goods sector deflation, while service sector inflation (not fully captured in the monthly reading) has been “higher than expected… across a broad range of services”. This suggests that further, rapid declines in inflation could be more difficult to achieve.
While the decision to keep rates unchanged was widely expected, the currency weakened following the RBA’s announcement and bond yields declined slightly across the curve. Since the start of November, the BBSW yield curve has flattened as investors unwound expectations of further rate hikes, despite increasingly hawkish comments by Governor Bullock.
The RBA’s next monetary policy meeting will be held on 6 February 2024, granting the central bank two extra months of growth and inflation data before deciding its next move (fourth quarter CPI data will be released on 2 February 2024). With inflation trending downwards, investors are forecasting no further rate hike in the current cycle. Nevertheless, continued labor and housing market strength suggests the direction of travel on the central bank’s long runway to achieve its inflation target by the end of 2025 could be easily diverted.
Therefore, it was unsurprising the RBA confirmed it remains “resolute in its determination to return inflation to target”, while recent speeches by Governor Bullock were hawkish. However, aware of the “significant uncertainties around the outlook”, the central bank only committed to a data dependent stance – prioritizing trends in demand, inflation and the labor market.
For AUD cash investors, the currently high interest rates and upward sloping yield curve continue to present relatively attractive investment opportunities for liquid, reserve and strategic cash balances. However, given the increased economic uncertainties, we believe a diversified strategy across instruments and maturities remains warranted.