No Need for Pre-Budget Rate Change: Shadow RBA

Australian inflation is back in the RBA’s target range. Employment has increased, and so have house and share prices. Internationally, President Trump’s first 100 days in office continue to raise eyebrows and put policy makers and economists on edge. Domestically, the federal budget takes centre stage. In an attempt to balance all these competing forces, the RBA Shadow Board remains convinced that the cash rate should remain at its current level. It attaches a 57% probability that this is the appropriate setting. The confidence attached to a required rate cut equals 3%, while the confidence in a required rate hike equals 40%.

Inflation in the March quarter rose to 2.1%, back within the Reserve Bank of Australia’s official target range of 2-3%. Worryingly, Australia’s seasonally adjusted unemployment rate remains at 5.9 percent, according to the Australian Bureau of Statistics. However, full-time employment rose by nearly 75,000 and the labour force participation rate edged up from 64.56% to 64.78%. There is no new data on wages growth, which remains subdued. The Aussie dollar, relative to the US dollar, continues to be range-bound, most recently trading around 75 US¢ mark. Yields on Australian 10-year government bonds dropped slightly, from 2.7% to 2.58%. Domestic share prices followed global stock markets upward.

International news is dominated by electoral uncertainty and geostrategic posturing. In particular, the sabre-rattling by the leaders of North Korea and US are cause for concern. An intensification of this conflict will likely unsettle global financial markets, with implications for the Australian market also.

Domestically, the housing crisis is attracting increasing attention, with the Treasurer acknowledging that the crisis extends not only to mortgagees but also to renters.

The big unknown is this month’s budget. It will likely include a housing package yet big reforms such as changes to negative gearing and capital gains tax concessions are off the table. The government’s announcement to fast-track last year’s $50 billion infrastructure plan will generate a sizeable fiscal stimulus.

The Shadow Board’s preference to keep the interest rate on hold has strengthened slightly, from 54% in April to 57%. It attaches an unchanged probability of 3% that a rate cut is appropriate and a 40% probability (43% in April) that a rate rise, to 1.75% or higher, is appropriate.

The probabilities at longer horizons are as follows: 6 months out, the estimated probability that the cash rate should remain at 1.50% equals 23%, three percentage points up from the previous round. The estimated need for an interest rate decrease has fallen for the second time in a row, from 6% to 4%, while the probability attached to a required increase equals 73% (74% in April). A year out, the Shadow Board members’ confidence that the cash rate should be held steady equals 17% (16% in the previous month), while the confidence in a required cash rate decrease remains unchanged at 4% and in a required cash rate increase dropped 81% to 79%.