If there is any doubt that the Reserve Bank is not forward looking, it certainly has been put to rest. The latest Reserve Bank minutes reveal that policymakers have attempted to gaze into the future, and as a result, have found a whole new set of problems to worry about.
Over the past couple of weeks productivity growth has been the topic of choice. The Reserve Bank Governor used a recent speech to step up public debate on the need to improve productivity. And the central bank has taken an additional step discussing the issue at the last board meeting.
As the minutes highlight, weak productivity growth in the future could prove to be quite messy for the Reserve Bank in trying to formulate a decision on interest rates. Over the past few years growth in wages has been held up by the surge in the terms of trade. However over the next few years it is likely that the terms of trade conditions will detract from incomes, and if employees continue to expect healthy, robust wage growth it will need to come from a significant pick up in productivity. The problem is that productivity growth has been poor over the past decade and as such can lead to inflationary pressures down the track.
This is effectively a problem for another day but the Reserve Bank is attempting to be on the front foot and put the focus on policy makers and industry bodies. Ensuring that more is done now to boost productivity and ensure that the problem does not arise down the track.
It is clear that the decision to leave rates on hold in August centred on the uncertainty on the global front. However it does seem that there are four hot button domestic financial conditions that the Reserve Bank is also keeping an eye on. The Reserve Bank has implicitly stated that above average interest rates, falling assets prices, a higher exchange rate and very weak credit growth were the domestic drivers of the rate pause. And it is likely that in coming months these conditions will be watched very closely and may mitigate any desire to lift rates.
Overall the minutes suggest that the Reserve Bank is firmly on the interest rate sidelines, however there was certainly no indication that rate cuts were likely to be part of the economic landscape in the near foreseeable future. Policymakers highlighted the sustained strength in mining investment and believed that the strong economic performance of Asian economies “meant that the medium-term outlook for the Australian economy remained strong”. Given this view it is more likely that the Reserve Bank will keep interest rates on hold until activity levels pickup before once again assessing the need for further rate hikes.
What are the implications for interest rates and investors?
Rates are on hold for now, but rate cuts are more likely than rate hikes in the current environment. Having said that, the recent sell-off on global sharemarkets was a fear-driven event and just as confidence dries up, it can be restored with the right moves by policymakers. The Reserve Bank is unlikely to react in a knee-jerk fashion in an environment with such serious market volatility.
The long term fundamentals for the economy remain sound. The job market remains well balanced, wage growth is healthy and housing affordability has improved. CommSec expects the Reserve Bank to remain on the interest rate sidelines until the risks to the global economy diminish and domestic activity levels pick up.
