Global Economic Events
There’s a lot happening globally that will influence the Reserve Bank of Australia’s decisions on interest rates.
The US Federal Reserve has made it clear that interest rate cuts are imminent. Slower growth, a softer labour market, and a well-contained inflation outlook are paving the way for rate cuts starting next month. Investors expect around 150 basis points of cuts in the US over the next 18 months.
Federal Reserve Chair Jerome Powell remarked that “a reduction in the policy rate could be on the table as soon as the next meeting in September… We’re getting closer to the point at which it’ll be appropriate to reduce our policy rate, but we’re not quite at that point.” Powell also noted broader disinflation in the US economy, supporting the case for rate cuts.
Mark September 18 on your calendar for the start of the US interest rate cutting cycle. Investors are currently expecting nearly three full 25 basis point cuts by the end of 2024.
Interest rates have already been cut in Canada (twice), China, the Eurozone, Sweden, Denmark, and Switzerland. Alongside the US, rate cuts are also anticipated in the UK and New Zealand.
Domestic Issues in Australia
The June quarter inflation data in Australia was mixed. The headline inflation rate was as expected, up 1.0% for an annual increase of 3.8%. However, the trimmed mean measure, which excludes extreme price changes, rose by 0.8%, below market forecasts.
Investors quickly reacted, pricing in three interest rate cuts from the RBA over the next 18 months, with the first cut potentially happening before the year’s end.
The critical point about the inflation data is not the June quarter result, but the forecast for the September quarter, expected to record zero change. This would lower the annual inflation rate to 2.6%, aligning with the RBA’s 2-3% target range.
This anticipated sharp drop in inflation for the September quarter is due to government electricity subsidies, a slowing economy, and falling global commodity prices.
Next week’s revised forecasts from the RBA will confirm that inflation will stay within the target range for at least the next year. If weaker growth and higher unemployment trends continue, the inflation outlook beyond 12 months will remain within target.
Beyond Inflation: Unemployment and the Labour Market
Unemployment and the labor market are crucial for RBA monetary policy management. This aspect is often overlooked, especially by those advocating for more interest rate hikes.
Over the past year, the unemployment rate has increased from 3.5% to 4.1%, and job vacancies have dropped by 26% over the past two years, indicating higher unemployment ahead. Wage growth has also cooled, with the quarterly rise in the wage price index decreasing from 1.2% in the September quarter of 2023 to 0.8% recently.
These trends could conflict with the RBA’s mandate. Lower interest rates could mitigate labor market weakness.
Overall, the monetary policy tightenings of the past two years have been effective, and it’s now time to ease. While the timing and extent of interest rate cuts in Australia are still debated, it seems reasonable to expect 100 to 150 basis points of cuts by the end of 2025 as inflation falls and the RBA works to curb rising unemployment.
