Stephen Miller
In the wake of the release of the December quarter CPI, it was clear that the RBA had ‘a lot of wood to chop’.
Despite growing evidence to the contrary, the RBA had retained a central scenario that was at one end of the inflation risk continuum, despite accumulating evidence to the contrary of an abundance of upside inflation risk.
At a minimum, the RBA left itself open to charges of communications inertia which arguably extended to a form of policy inertia.
Yesterday’s Statement from the Governor may go some way to rectifying that situation but only a little.
In his Statement the Governor:
- Announced the immediate cessation of the RBA’s quantitative easing program.
- Indicated that the Bank’s primary focus was on ‘outcomes based forward guidance’ (OBFG) and removed reference to ‘calendar guidance’, ending a confusing conflation between the two that had characterised its communication missteps in the latter part of 2021.
- Updated the RBA’s inflation and wage forecasts to reflect the changed reality but implicitly stuck to the “Australia is different” theme. Additionally, the Governor stated that the “Board is prepared to be patient as it monitors how the various factors affecting inflation in Australia evolve”, indicating that policy rate increases are probably some way off.
The RBA revised its forecasts for inflation upwards – now expecting underlying inflation to reach 3 ¼ per cent in 2022 before easing back to 2 ¾ per cent by end 2023, but noting uncertainties regarding the “persistence of the disruptions to supply chains and distribution networks and their ongoing effects on price”.
Crucially, wage growth is only expected to pick up gradually even if the RBA is now forecasting that 2022 will see the lowest unemployment rate in almost 50 years. That must be a key uncertainty.
The inflation ‘outcome’ is arguably already sufficient to allow a policy rate increase. Actual inflation at 3.5 per cent is well above the 2-3 per cent target zone, while trimmed mean inflation at 2.6 per cent is at the top end of the range and is running at an annualised 3.4 per cent in the most recent six months. Despite forecasts to the contrary, the RBA does not appear convinced that it is “sustainably” within the 2-3 per cent band again, curiously in my view, seeming to put greater emphasis on downside inflation risks.
It is understandable that the key ‘outcome’ that will determine the RBA’s policy rate lift-off remains to be the rate of wage growth, with the RBA desiring an annual rate of wage growth around 3 per cent before contemplating any increase.
The December quarter wage price index released on February 23rd is unlikely to see wage growth of a sufficient order of magnitude to comfortably allow a policy rate rise in March.
Unfortunately, the March quarter wage price index is not released until late May, by which stage the RBA will be relying on data almost five months out-of-date in its monetary policy deliberations. This may mean that other evidence of wage pressure, including anecdotal evidence, potentially becomes important.
The labour market looked to be in robust health. The unemployment rate in December was 4.2 per cent, a level rarely glimpsed since the 1970s (although some – maybe temporary – increase is expected in January as omicron stalled the forward momentum in the labour market). In such a circumstance, it would be a surprise not to see significant wage acceleration.
As an aside, it might be helpful for the RBA to focus on wage measures that include bonuses or discretionary variable payments rather than the ‘headline’ (ex-bonus) wage price index measure. The former is likely to be more obviously pro-cyclical and more indicative of inflation currents than measures that exclude them. Measures that exclude such payments are likely to be more subject to the “wage inertia” features the RBA Governor has referenced.
Nevertheless, on the basis of this Statement, the earliest one might expect a policy rate increase is June.
Critical will be evidence of wage growth reaching that 3 per cent level.
Should that occur, the pressure for an increase may become irresistible.
By Stephen Miller, Investment strategist