Stephen Miller

The financial market commentariat would have us believe that Federal Reserve Chair Warsh’s Congressional testimony was “hawkish”.

Fair enough! Despite a benign June consumer price index (CPI) report and last night’s benign producer price index (PPI) report, Warsh noted that it didn’t follow that it was ‘mission accomplished’ on inflation. He added for good measure that the Fed’s interest rate setting committee had ‘no tolerance for persistently elevated inflation’ and further, were united in ‘a resolute commitment to restoring price stability’.

I would note that it would be highly problematic for a central bank chair to communicate anything other than a ‘resolute commitment’ to fighting (what appears to be elevated and “sticky”) inflation.

Warsh gave nothing away regarding the likely Fed stance that will emerge from the next meeting of the Fed’s interest rate setting committee on July 28-29. (For what it is worth, markets dialled down their expectations of a tightening at the July meeting to a trivial level in the wake of the benign inflation reports but are still pricing slightly more than one further tightening before year-end).

All in all, Warsh’s comments are consistent with the notion that statements from this Fed Chair may well assume a more Delphic quality than that to which financial markets have become accustomed.

Warsh has indicated a strong antipathy for central bank “forward guidance” and by implication, the utility of the Fed’s “dot plot”. He did not submit a “plot” at the most recent Fed policy meeting and has made it clear that he doesn’t put too much store in the accuracy of the “plot”.

In essence, Warsh appears to doubt that the “dot plot” is additive to the information set of the Fed or markets. Indeed, he implies that in some instances the exercise is possessed of a certain disutility, insofar as such projections are innately ephemeral and create a damaging facade of an anchoring mechanism that bears no relation to unfolding reality.

In this sense it might be that to the extent that markets have inferred a tactical “hawkish” tilt under Warsh, it might be misplaced.

What Warsh has articulated is a desire to reframe the Fed’s strategic direction via the establishment of a series of taskforces covering communication, Fed balance sheet management, a review of data sources, productivity and jobs, and inflation drivers and measurement.

Having said that, to the extent that one could draw any conclusions regarding the benign June inflation reports it is that they appear to be some way from necessitating an increase in the Fed policy rate.

Inflation, however measured, is still north of the Fed’s 2 per cent target but looks to be trending (very grudgingly) downward despite tariff impacts and the surge in oil prices in the wake of the Iranian conflict. Of course, it might be argued that with respect to oil prices, the jury is still out when it comes to potential contagion effects on broader inflation and inflation expectations, particularly in the wake of the reescalation of the Iranian conflict.

The taskforces on productivity and jobs and price and inflation frameworks play into a theme that Warsh has in the past been quite vocal about. Specifically, Warsh conjectures that disinflation in the US will follow from tremendous (largely AI motivated) investment. In Warsh’s view that investment has wrought a productivity dividend that (other things equal) has raised the US economy’s “speed limit”. In other words, the US economy can grow at faster rate before igniting inflationary pressures.

The notion that AI driven productivity growth can constrain inflation is a credible – if debateable – position. Some worry that the huge capex requirements associated with AI might in the short-term put demand pressure on inflation.

What is also interesting is that when it comes to inflation measures, Warsh has indicated that he prefers the Dallas Fed trimmed-mean measure of the PCE. That measure was 2.4 per cent in in May, a full percentage point below the traditionally preferred core PCE at 3.4 per cent and occurs despite those aforementioned broad-based price pressures emanating from the Trump tariff agenda and oil price increases. Like other measures, the Dallas Fed inflation measure is still north of the Fed’s 2 per cent target for “inflation” but further away from mandating a policy rate increase than the traditionally preferred measure.

If that remains the case (an admittedly big “if”) and if Chairman Warsh can convince other FOMC members of the veracity of his viewpoint (a similarly big “if”) then a policy rate hike might be a more remote prospect than markets currently contemplate.

Further, Warsh’s more strategic focus might mean less frequent policy adjustments than have been seen in the past.

Instead, an extended period of a stable policy rate might be a more credible scenario.

By Stephen Miller, investment strategist

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Stephen Miller

I’m not sure that the news flow of the last week or so has managed to advance whatever one may have been thinking about the decision of the Reserve Bank of Australia (RBA) Monetary Policy Board (MPB) at its next meeting in August.

The minutes from the June meeting noted that policy was ‘somewhat’ restrictive but at the same time exhibited some handwringing around elevated inflation expectations. What might have been at the forefront of the RBA Board’s contemplations was the Fair Work Commission (FWC) decision to award a 4.75 per cent increase in the minimum wage and awards. That such an increase occurred against a backdrop of ongoing abject productivity growth and how it might inform wider wage negotiations is clearly a concern going forward.

The May monthly consumer price index report (CPI) was not as bad as feared and is probably consistent with the most recently issued RBA forecasts back in May.

Nevertheless, Australian inflation remains elevated. Trimmed-mean consumer price index (CPI) inflation in Australia is currently running at 3.6 per cent. That puts Australia at the top the developed country inflation league. That is not a (developed) World Cup we should want to win!

Some more positive news since the June meeting has been declining oil prices which might mitigate the dangers of oil price inflation broadening into something even more pernicious.

But Australia’s inflation problem is way more than just oil prices, as illustrated by the aforementioned adverse comparison of Australian inflation with elsewhere in the developed world.

Jim Chalmers might have us believe that the Middle-East tensions and the attendant ratcheting up of the price of oil is the primary driver of our current inflation challenge, and yes there is a skerrick of truth in that, at least in absolute terms.

But the stark reality is Australia has a structural homegrown inflation proclivity.

That homegrown structural inflation proclivity reflects, inter alia, the interplay of regulatory creep in labour and goods markets that impose costs on businesses, part of which are passed on to consumers. The regulatory regime is also reflected in the abject productivity growth which makes the task of inflation containment all the harder.

As I’ve stated in the past, this state of affairs is not just down to the current Federal Government. Rather it reflects a long-standing policy deficiency since the end of the Hawke-Keating and Howard-Costello eras. Governments (both State and Federal and Labor and Coalition) have long averted their eyes from addressing productivity enhancing policy measures. Just as importantly, little attention has been given to avoiding productivity diminishing measures attaching to (mostly well-intentioned but poorly thought out) regulatory oversight of labour and goods markets.

Sure, (to paraphrase the Prime Minister) people don’t sit around the kitchen table talking about low (or negative) productivity growth. But productivity remains central to enhancing standards of living not the least through mitigating inflation.

The decision to “pause and reflect” at the June meeting was understandable given concerns about looming cyclical fragility. In that context it reflected a view that there was some utility in using the “space” provided by preceding policy rate increases to assess how the economy was adjusting and the impact of disruptions.

However, both the RBA minutes and Governor Bullock’s comments would indicate that the policy rate might still need to be increased at a later date. That reflects, inter alia, governments’ inability to support the RBA’s inflation battle with supportive structural policies.

So, in determining the course of the policy rate over coming months, the RBA faces considerable challenges having to negotiate a tricky (dare I say “narrow”) path between structural inflation factors and cyclical fragility.

The June CPI release later this month looms as a key staging post in how the negotiation of that path may evolve.

Eurozone June “flash” CPI: ECB to stand pat in July

Overnight, Euro area CPI inflation for June came in a little lower than expected at 2.8 per cent at the headline level (compared with 3 per cent expected). The core reading was also better than expected at 2.4 per cent (2.6 per cent expected).

While inflation remains above the ECB target of 2 per cent, there now seems almost no prospect of a policy rate (deposit facility) increase from the current 2.25 per cent at the July 22-23^rd meeting.

Speaking at the ECB’s Sintra Conference earlier in the week, ECB President Lagarde stated that she thought the ECB had gone some way to making the Eurozone economy less vulnerable to inflation shocks, perhaps reflecting a more rigorous financial framework.  She also noted that tensions in the Middle East had subsided (even if resolution was ‘far from assured’). Overnight at that same conference, Lagarde stated that she thought the risks to inflation and growth are ‘broadly balanced’ which would indicate that she sees no compelling case for a policy rate rise. (She also expressed a scepticism regarding the utility of “forward guidance” and other features of COVID era monetary policy such as “quantitative easing”.)

Other ECB decisionmakers are less sanguine.

Markets see the prospect of a hike in as closer to 30 per cent in September.

The latest set of ECB forecasts were based on Brent oil prices of around $US82 per barrel. It is currently at circa $US73 per barrel giving the ECB some “space” to digest whether further inflation pressures might necessitate a further increase.

Coming up: US non-farm payrolls tonight (ahead of Independence Day holiday)

As mentioned above, even more benign looking measures of inflation such as the Dallas Fed ‘s trimmed mean core PCE measure is, at was 2.4 per cent in May, still a way above the 2 per cent Fed “inflation” target.

And progress on the inflation front has been excruciatingly slow.

So absent some sharp and unforeseen deterioration in the labour market a policy rate cut hardly looks proximate.

Tonight sees the release of the June non-farm payrolls report ahead of Friday’s Independence Day holiday.

Indications are that the labour market remains in satisfactory condition.

The May Job Openings and Labor Turnover survey (JOLTs) report saw openings mostly unchanged at a healthy enough 7.6m.

The ADP June payrolls report showed a solid enough gain of 98k (even if lower than the 113k increase expected). The ADP report is sometimes dismissed (too easily in my view) because of its poor record in foreshadowing month-to-month movements in the Bureau of Labor Statistics payrolls measure. However, it is just as good a measure of the state of the labour market as the payrolls report.

The June Institute of Supply Management (ISM) manufacturing index (PMI) released overnight paints a reasonably satisfactory picture of the US manufacturing sector: the index coming in unchanged at 53.3. The employment component increased to to 49.7 from 48.6 in May (50.0 is the neutral point between expansion and contraction). The prices component declined to 73.0 from 82.1 in May. That is still elevated but maybe a harbinger of some easing of price pressures to come.  

A consensus outcome for payrolls of a circa 110k increase in employment and an unemployment rate unchanged at 4.3 per cent with average earnings growth of 3.5 per cent is not going to move the dial for any Fed members.

By Stephen Miller, investment strategist

The post RBA minutes: stayin’ live appeared first on AdviserVoice.

Stephen Miller

As was pretty much expected, the Federal Reserve’s Federal Open Market Committee (FOMC) chose to keep the policy (federal funds) rate target unchanged at 3.5 – 3.75 per cent.

That was pretty much universally expected.

The Statement issued with the decision looked a little more “hawkish” than the market had anticipated.

Overall, the Committee looked to be relatively sanguine regarding economic activity growth and the labour market but noted that ‘inflation remains elevated relative to the Committee’s 2 per cent goal’ and that ‘the Committee will deliver price stability.’ There was no reference to the employment side of the Federal Reserve’s (Fed) mandate.

The phrasing of the Statement looked to be framed against a backdrop of a particular concern regarding the “stickiness” of inflation.

That was reflected in the projection materials. The central tendency of the Fed’s traditional inflation focus, the core private consumption expenditures (PCE) price index, is now thought to come in at 3.3 per cent for 2026 compared with 2.7 per cent in March.

Reflecting that the central tendency of the policy (federal funds) rate which was revised up to 3.8 per cent from 3.4 per cent in March. In terms of the “dot plot”, of the 19 participants, 9 saw at least one further increase in the policy rate (3 saw one increase, 5 saw two increases, and 1 saw three increases), 8 participants saw no change and 1 saw a reduction. Chair Warsh did not submit a plot.

In his press conference, Chair Warsh foreshadowed some potentially significant changes in current Fed decision-making processes. He announced the establishment of five taskforces that will cover key elements of the current Fed processes and practices. Those task forces will cover:

• Fed communication, including, presumably, the utility of the current “dot plot”.
• Management of the Fed’s balance sheet.
• How the Fed uses existing data and whether new information sources might provide more useful information.
• Productivity and jobs.
• Price / inflation frameworks, including drivers and the measurement of inflation.
• As mentioned, the markets have taken a view that the Statement is a relatively ‘hawkish’ one: equity markets are weaker as is the USD, bond yields mostly rose, particularly in the front-end.

The “hawkish” reaction is understandable.

For one thing half of the FOMC, via the “dot plot”, see a hike in the policy rate this year.

For another, the Statement and Warsh in his press conference, emphasised “price stability” with an implication that current inflation is too high. Chair Warsh in his press conference seemed to wish to reinforce the Fed’s credibility as an inflation fighter.

And finally, the Chair too exhibited no real disposition to do the President’s bidding, putting Fed independence on display.

However, my sense of the press conference was that Warsh was not necessarily signalling much about the future path of policy (not surprising given his disdain for forward guidance and, indeed, the utility of the “dot plot”).

In that context the bond market reaction may have reflected a market that was anticipating a more “dovish” disposition from the Fed Chair. In other words, bond market positioning was “the wrong way around”.

Indeed, on the “dot plot” Warsh noted in the press conference that when he reviewed the plots of his colleagues, he spotted they were in pencil, ‘the type with an eraser’ he said, suggesting that circumstances can shift quickly and that markets should be wary of their informational utility.

Moreover, the announcement of a series of taskforces and the implied changes in Fed processes suggests that the next Fed move is maybe more of an open question, as might be the ultimate impact on the bond market, particularly via the balance sheet taskforce.

RBA: stayin’ “live”

For what it is worth I think the RBA made the right call at Tuesday’s meeting.

With inflation showing signs of peaking, with the news flow from the Middle-East marginally less worrying, with the economy clearly slowing and growth narrowly based, with the labour market possibly at an inflection point and having raised the policy rate at each of the three previous meetings, a ‘pause and reflect’ made sense.

What also made sense was to reinforce ongoing concern regarding inflation.

That is despite the aforementioned better news from the Middle-East.

Jim Chalmers might have us believe that the Middle-East tensions and the ratcheting up of the price of oil is the primary driver of our current inflation challenge. That is partially true at the ‘headline’ level. But the reality is Australia has a structural homegrown inflation proclivity.

That much may be gleaned from the trimmed-mean inflation measure which excludes any strong upward impetus from oil prices.

Trimmed-mean consumer price index (CPI) inflation in Australia is currently running at 3.4 per cent. That means we’re currently competing with Norway for the highest developed country inflation crown. That is not a (developed) World Cup we should want to win!

By way of comparison, the trimmed-mean measure in the US is 2.9 per cent and that is with some tariff impact that doesn’t apply in the Australian context.

Treasurer Chalmers might seek to conceal that point in his public statements on interest rates and inflation, but the reality is much of the problem is our own doing.

That homegrown structural inflation proclivity reflects, inter alia, the interplay of regulatory creep in labour and goods markets that impose costs on businesses, part of which are passed on to consumers. The regulatory regime is also reflected in abject productivity growth making the task of inflation containment all the harder.

Ruchir Sharma in a recent opinion piece in the Financial Times noted that “populists of the left and right tend to push for lower interest rates but appear not to recognise that the people hurt most by the resulting inflation are their main constituents: the poor and middle class.”

That is something the Treasurer may wish to reflect on, not to mention his erstwhile mentor, Wayne Swan, who not long ago accused the RBA of “punching itself in the face”! Nice line, but Swan’s sentiment is not one that has aged well. Indeed, one might be tempted to reference glass houses. (Mea culpa: we’ve all been there!)

To be fair, the current state of affairs is not down to the current Federal Government. Rather it reflects a long-standing policy deficiency since the end of the Hawke-Keating and Howard-Costello eras. Governments (both State and Federal and Labor and Coalition) have long averted their eyes from addressing productivity enhancing policy measures. Just as importantly, little attention has been given to avoiding productivity diminishing measures attaching to (mostly well-intentioned but poorly thought out) regulatory oversight of labour and goods markets.

Sure, (to paraphrase the Prime Minister) people don’t sit around the kitchen table talking about low (or negative) productivity growth. But productivity remains central to enhancing standards of living not the least through mitigating inflation.

So, while looming cyclical fragility may have motivated the RBA’s ‘pause and reflect’, that Governor Bullock was clear that the policy rate might still need to be increased at a later date, reflects governments’ inability to support the RBA’s inflation battle with supportive structural policies.

In determining the course of the policy rate over coming months, the RBA faces considerable challenges having to negotiate a tricky (dare I say “narrow”) path between structural inflation factors and cyclical fragility.

Bank of England’ nothing to see here…yet

The Bank of England meets tonight.

In some ways the Bank of England calculus is similar to that faced by the RBA.

The economy is in a state of cyclical fragility, and the UK also has somewhat of a structural inflation proclivity. In many ways, the inattention to structural elements has been more egregious than that attaching to Australia and in that context it is surprising that inflation has at the margin been better behaved. That may be attributable to a deeper cyclical fragility.

In any case, a set of benign (relative to expectations) virtually seals the deal for no rate rise at this meeting.

Headline CPI in May was unchanged at 2.8 per cent (versus 3.0 per cent expected). Core inflation came in at 2.6 per cent, slightly up from 2.5 per cent in April, and a little below the 2.7 per cent expected. Services inflation remains somewhat problematic coming in at 3.7 per cent up from 3.2 per cent in April.

So, while inflation remains well north of the 2 per cent target, against a backdrop of more positive news from the Middle-East this week, the key inflation measures seem sufficient enough to forestall any potential increase in the policy rate at tonight’s meeting. That said, markets may continue to romance the notion of a policy rate rise given services inflation and the fact that the current measures are well north of the target.

By Stephen Miller, investment strategist

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Stephen Miller

The post The RBA: ‘pause and reflect’ despite a particular inflation proclivity, Fed and other central banks appeared first on AdviserVoice.

Stephen Miller

The onset of the Iranian crisis has unleashed a litany of dire prognostications surrounding the likely course of the price of financial assets.

Yet US equity markets are close to record highs.

What gives?

The favoured explanation among the commentariat is that markets are complacent – perhaps even “irrationally exuberant” – and a day of reckoning is nigh.

Viewed through a macroeconomic prism that explanation has some appeal.

Even if hostilities in the Middle East are about to be dialled down it is difficult to see oil prices return to their pre-conflict levels. Re-engineering of energy supply chains, a greater tendency to “just-in-case” rather than “just-in-time” oil inventory management and an ongoing risk premium attaching to the price of oil may see an extended period of elevated oil prices.

Inflation was “sticky” prior to the surge in oil prices. Furthermore, structural global inflation suppressants that had operated since the late 1980s up until the onset of the pandemic are in clear abeyance (think declining skilled migration flows from the former Eastern Bloc, China and India; the retreat of globalisation of goods markets; increasing labour and goods market regulation; and declining baby boomer workforce participation).

Those waning structural inflation suppressants and now the surge in oil prices have meant that central banks, including the US Federal Reserve, are required to be more attuned to upside inflation risks than they may have been in the three or so decades leading up to the pandemic. It has also meant that an anticipated decline in bond yields has not eventuated.

There is a view that current bond yields are “elevated” by some historical standard.

That notion, however, doesn’t bear scrutiny.

Between 2008 and 2022 (the period covering from the GFC to the pandemic) US 10-year bond yields averaged around 2.4 per cent.

That was a period of extraordinarily low yields by historical standards. Yet it is etched in the minds of a number of market participants as some benchmark of ‘normality’.

Between 2000 and 2007 the average US 10-year bond yield was around 4.7 per cent. That is a way north of where the current US 10-year bond yield is trading.

The latter is arguably a better benchmark (albeit one that is far from perfect).

(Interestingly the average through the 1960s was also around 4.7 per cent.)

In other words, current bond yields are not “high” by historical standards.

The corollary of that notion is that in the current period of relatively strong inflationary tailwinds, the forces preventing any substantial decline in global and US bond yields are formidable.

That would imply ongoing headwinds to economic activity growth and equity market performance.

So why are US equity markets at close to record highs?

For one thing the macro data is yet to show any substantial slowing in economic activity growth.

However, it is also yet to reflect fully the fallout from the Iranian conflict.

But more importantly, the answer is that equity markets reflect a whole lot more than the macroeconomy.

Global markets are currently wrestling with huge economic structural shifts that are arguably more important than conventional macro metrics in driving equity market performance.

At the forefront of these changes is the rapidity of technological advances. The incorporation of AI into economic life will likely see massive productivity growth that can mitigate any adverse macro influences.

Moreover, there is an element of US exceptionalism that attaches to AI and consequent productivity growth.

The US is at the epicentre of AI developments and there are signs that it is already reaping outsized rewards from that circumstance.

US productivity growth has averaged 1.7 per cent per annum since the end of 2021. The equivalent Australian figure is -1 per cent. To put it more starkly, US productivity has grown by almost 7 per cent in that time, Australia’s productivity has fallen by 4 per cent. (Australia’s experience is reflected more or less in the rest of the developed world outside the US).

That might in part explain why US equity markets are at record highs (despite an adverse prospective macro environment) and that is to some extent dragging the laggards with it.

An important investment dimension arising from the forgoing is that it is likely to result in a greater dispersion of individual stock returns. That being the case, the returns from “good” active management are accordingly higher compared with passively managed index funds.

So yes, the macro environment is a challenging one and likely to stay that way as bond yields remain at current levels or go higher.

And that should make investors wary.

But equity markets (particularly the US) can benefit from harnessing important structural mega-trends that can propel ongoing strong equity performance despite that adverse macro environment.

The RBA: where to next?

I had canvassed the possibility that the RBA might ‘pause and reflect’ at this week’s RBA Monetary Policy Board (MPB) meeting.

That was not intended as a prescriptive statement but more as a descriptive sense of what the RBA may deliver under the new arrangements that accompanied the An RBA Fit for the Future review initiated by Treasurer Chalmers.

That didn’t eventuate, but I think the RBA Monetary Policy Board made the right call.

Inflation was already both too high and broad-based ahead of the Iran shock, even if the March quarter consumer price index (CPI) outcome was slightly less than feared.

And despite that ‘better than feared’ March quarter outcome, newly issued RBA forecasts show a path for trimmed-mean inflation higher than forecast back in February. For this calendar year trimmed-mean inflation is expected to come in at 3.5 per cent (compared with 3.2 per cent forecast back in February).

For what it is worth, I think on balance the current environment is one that argues for further insurance against inflation expectations becoming unanchored and that should see a further tightening at some stage this year.

Both the Federal and State governments appear to reticent to abandon politically expedient but ultimately counter-productive spending measures. In large part the end result is higher policy rates.

This is also the product of an almost egregious inattention of past and present governments (both State and Federal and Labor and Coalition) to policies that might ease structural constraints on inflation. In most instances this involves “unintended consequences” of regulatory creep in labour and goods markets.

The forgoing is emblematic of a particular inflation proclivity in the Australian economy.

That is on top of structural global inflation suppressants that had operated from the late 1980s up until the onset of the pandemic now being in clear abeyance.

The forgoing suggest that the RBA might still need to reload later in the year.

Coming up: US non-farm payrolls is unlikely to move the dial for the Fed despite the Warsh ascendancy

The last meeting of the US Federal Reserve (Fed) appeared to indicate the Fed was some way from easing policy.

At this juncture it is difficult to see that changing even as Kevin Warsh assumes the Chair’s position, presumably later this month.

Warsh, conjectures that disinflation in the US will follow from tremendous (largely AI motivated) investment. In Warsh’s view that investment has wrought a productivity dividend that (other things equal) has raised the US economy’s ‘speed limit’. In other words, the US economy can grow at faster rate before igniting inflationary pressures.

That is a credible – if eminently debatable – position.

And there have been glimpses of that phenomenon in some of the less “noisy” inflation measures.

For example, the Dallas Fed ‘s trimmed mean core private consumption expenditures (PCE) measure was 2.4 per cent in March, minisculely above the February reading which was the lowest since August 2021, and comes despite broad-based price pressures emanating from the Trump tariff agenda.

That said, progress toward the 2 per cent target, even on the Dallas Fed measure, has been excruciatingly slow.

Judging by their commentary most members of the Fed’s rate setting Federal Open Market Committee (FOMC) remain concerned about the potential for the recent oil price surge to unanchor inflation expectations.

And it remains the case that the Fed’s favoured inflation measure, the core private consumption expenditures (PCE) price index, at 3.2 per cent in March, is well above the target 2 per cent and was the highest read since November 2023.

So absent some sharp deterioration in the labour market the incoming Fed Chair might be hard-pressed to convince his fellow FOMC members of the case for cutting the policy rate.

Friday of course brings the April non-farm payrolls report.

Indications are that the labour market remains in satisfactory condition.

The ADP April payrolls report was more robust than anticipated showing a gain of 109k (versus the 85k increase expected). The ADP report is sometimes dismissed (too easily in my view) because of its poor record in foreshadowing month-to-month movements in the Bureau of Labor Statistics payrolls measure. However, it is just as good a measure of the state of the labour market as the payrolls report.

The March Job Openings and Labor Turnover survey (JOLTs) report saw openings remain at a satisfactory 6.9m.

The April Institute of Supply Management (ISM) manufacturing index (PMI) released on Monday paints a reasonably satisfactory picture of the US manufacturing sector: the index coming in unchanged at 52.7. The employment component slipped to 46.4, which is a little on the soft side and consistent with some manufacturing job losses (50.0 is the neutral point between expansion and contraction). The prices component meanwhile increased to an elevated 84.6 (ringing clear alarm bells around accelerating inflation in the sector).

The April ISM services index also paints a satisfactory picture with the overall index remaining consistent with expansion at 53.6. The employment component improved a little to 48.0 from 45.2, although it remains consistent with some modest cooling in the non-manufacturing labour market. The price component remains elevated at 70.7 (again consistent with worrying acceleration in inflation).

A consensus outcome for payrolls of a circa 180k increase in employment and an unemployment rate unchanged at 4.3 per cent with average earnings growth of 3.5 per cent is unlikely to move the dial for remaining Fed members.

If Kevin Warsh does in fact wish to cut the policy rate, he has his work cut out.

By Stephen Miller, investment strategist

The post Are markets ‘complacent’? appeared first on AdviserVoice.

Stephen Miller

The sharp increase in the price of oil in the wake of the Iran conflict has ushered in a plethora of central bank warnings around the inflationary consequences of such an increase.

What worries central banks is that a surge in oil prices might result in inflation expectations becoming unanchored and ultimately self-fulfilling.

The decidedly hawkish tone adopted by developed country central banks is largely aimed at avoiding a repetition of what played during in the 1970s in the wake of the first oil shock that followed the 1973 Yom Kippur War and the second shock in the wake of the Iranian revolution in 1979.

When the history of central banking in the 1970s came to be written it was thought that central banks were “too accommodating” of oil price shocks.

The narrative seemed to be that central banks in general, and the Federal Reserve in particular, were too quick to ease the monetary brakes after the first oil shock thereby failing to seal the inflation genie securely in the bottle. The result was that when the second oil shock hit, already elevated inflation expectations became unanchored, and the genie got well and truly out of the bottle.

It took the harsh but necessary Volcker medicine of the late 1970s / early 1980s which saw US overnight rates (fleetingly) approach 20 per cent to get that inflation genie back in the bottle. (The process took a little longer in Australia).

The experience of the late 1970s / early 1980s notwithstanding, an alternative narrative with respect to oil prices tended to take hold under the Fed Chairmanship of Alan Greenspan.

This was that the activity diminishing consequences of an oil price surge were of greater consequence than the price effects. Therefore, the bigger risk was the economy tipped into recession and that would ultimately be disinflationary.

So which is it? Are oil prices inflationary or disinflationary?

I suspect that the answer largely depends what might be happening with structural elements that have a bearing on inflation.

Throughout the developed world, the post-World War 2 period through to the end of the 1970s was marked by a greater confidence in governments being able to seamlessly regulate desired economic outcomes.

There may have been some benefit from such an approach, but there were also substantial economic costs in terms of structural rigidities reducing the flexibility of economies to respond to shocks (inflation shocks in particular). The result was a growing inflation proclivity (or “stickiness”) in developed economies.

Perhaps that was why inflation expectations were so hard to contain in the 1970s.

The 1980s through to the early 2000s were marked by a more deregulatory approach. Certainly, that was evident in the financial sector but also in labour and goods markets. This increased economic flexibility in goods and labour markets and was a factor in the “Great Disinflation” of that period.

There were also other structural currents that served to put a lid on inflation. The collapse of Communism in the former Eastern Bloc and the opening of China and India elicited a wave of skilled migration to developed countries. Governments were focussed on lowering tariffs and fostering domestic competition. Baby-boomer participation in the workforce was increasing (particularly female participation) which led to a relatively abundant labour supply that arguably kept wage growth lower.

It was because of a litany of such structural suppressants to inflation that oil prices through the period from the mid-1980s to the early 2000s tended to have more disinflationary consequences, at least in the medium-term.

However, as noted by Professor Charles Goodhart, former Bank of England Monetary Policy Committee member and a distinguished Emeritus Professor at the London School of Economics, those structural suppressants (particularly those associated with labour supply shocks) are probably in reverse.

The globalisation of labour supply (after the fall of the Berlin Wall and the “export” of labour from large emerging market economies such as China and India) is abating.

The globalisation of goods markets is in retreat as governments resort to protectionist measures (most notably with the Trump trade measures in the US); domestic regulation of goods and labour markets is increasing in scope leading to loss of flexibility in markets and attendant upward price pressures or “sticky” inflation”; and baby boomer workforce participation is declining.

A potentially important mitigant to the forgoing inflation scenario is put forward by Fed Chair designate, Kevin Warsh. He conjectures that disinflation in the US will follow from tremendous (largely AI motivated) investment. In Warsh’s view that investment has wrought a productivity dividend that (other things equal) has raised the US economy’s “speed limit”. In other words, the US economy can grow at faster rate before igniting inflationary pressures.

That is a credible, if still highly debateable position. For all the talk of US productivity exceptionalism (which certainly exists), the Fed’s favoured core private consumption expenditures (PCE) measure is “sticky” at just above 3.0 per cent, unchanged from where it was a year ago and still well north of the Fed’s target 2 per cent.

Bearing that in mind, and the abatement of structural inflation suppressants, it might mean that today’s world is more redolent of the 1970s and a surge in oil prices may have a longer lasting inflation impact.

That will mean that central banks have to be more attuned to the importance of anchoring inflation expectations than they may have during the three decades from the mid-1980s.

And that means a period of higher interest rates.

RBA: time to “pause and reflect”?

Yesterday’s relatively benign February monthly CPI report probably eases the pressure on the RBA to execute a “hat-trick” of rate rises when it meets in May.

If we take the Governor at her word (as I think we should), if the closeness of the vote at the last meeting was “more about timing than direction” then there may be some breathing space in May that affords the RBA to take on board a little more data before reconvening in mid-June to contemplate the utility of further tightening.

But it is a close call.

That is also the view reflected in the local bond market. In the wake of yesterday’s report markets were pricing roughly a 60/40 chance of a May tightening.

If pressed I would see the probability of a May tightening at something lower than 50 per cent (bearing in mind the Governor’s timing / direction comments). In other words, there may be some scope for “pause and reflection”. That might change in the event of an adverse March inflation report and / or any uptick in wage pressures in the wake of the ACTU claim for a 5 per cent increase in the minimum wage.

In any case, I strongly suspect that further tightening is in store as the year progresses because getting on top of the inflation remains the more important focus.

In my view, the Australian economy has developed an inflation proclivity that is greater than that which might exist in other developed countries.

There are elements to that proclivity that are homegrown, such as an almost egregious inattention of governments (both State and Federal and Labor and Coalition) to policies that might ease structural constraints on inflation. In most instances this involves “unintended consequences” of regulatory creep in labour and goods markets.

There are other elements that are more global in nature. In large measure these involve the reversal a number of structural forces suppressing inflation that were present in the three or so decades leading into the pandemic.

The globalisation of labour supply (after the fall of the Berlin Wall and the “export” of labour from large emerging market economies such as China and India) is abating; globalisation of goods markets is in retreat as governments everywhere introduce protectionist measures; domestic regulation of goods and labour markets is increasing in scope leading to loss of flexibility in markets and attendant upward price pressures or “sticky” inflation”; and baby boomer workforce participation is declining (limiting labour supply and lifting wages).

In the wake of the oil shocks of the 1970s, developed country central banks’ big mistake was a premature retreat from an inflation focus. That “let the inflation genie out of the bottle” and resulted in the painful, but necessarily harsh Volcker medicine of the late 1970s / early 1980s which saw overnight rates (fleetingly) approach 20 per cent. (Inflation – and elevated interest rates – lingered longer in Australia.)

I am not suggesting that the current circumstance is one that is anywhere near quantitatively on a par with the stagflation of the 1970s. But there are elements that are redolent of that time, albeit on a substantially reduced scale – “stagflation-lite” if you will.

As to the argument that a surge in oil prices is ultimately disinflationary, I have my doubts (as explained above).

That may have been true through the 1990s and into the early 2000s when those structural inflation suppressants were active.

It is less true in 2026.

What the forgoing means is that central banks need to be more attuned to inflation risks now more so than at any other time since the 1980s.

That has particular relevance in Australia given its inflation proclivity.

So even with a “pause and reflect” in May, the RBA might still need to reload in June.

The RBA operating in a new communication paradigm

There was some suggestion at the RBA Governor’s press conference that followed last week’s decision to further increase the policy rate that the RBA had “miscommunicated” its position in the lead-up to the meeting.

The contention was that both the Governor and her Deputy had strongly intimated that a tightening of policy was extremely likely at the March meeting.

The fact that the decision was a finely balanced one, as exemplified by the 5-4 vote in favour of an increase in the policy rate, was taken in some quarters as RBA “miscommunication”.

The Governor (rightly in my view) pushed back strongly on that notion. She suggested that the new arrangements that accompanied the An RBA Fit for the Future review initiated by Treasurer Chalmers meant that every meeting was a “live” one and this was what she and her deputy had wished to communicate.

In other words, those new arrangements have changed the operating communications paradigm for the RBA’s monetary policy decisions.

The new arrangements sought to give alternative viewpoints to any RBA institutional one. Those alternatives now have a voice and the power to challenge and debate the RBA staff view.

That is arguably not a bad thing.

But in this context, it is inevitable that when a diversity of voices are heard then discerning a “consensus” view is made more difficult.

This perhaps reflects what markets (should?) have know all along; that monetary policy and its appropriate stance is something that reasonable people can disagree on.

The appropriate stance of monetary policy is not a black and white decision.

When non-RBA staff Monetary Policy Board (MPB) members feel inclined to communicate their views (as I understood the new arrangements to envisage) that will become clearer.

RBA communication might therefore become more about the various factors that feed into an eventual decision.

The downside might be that real debate at the MPB level of the RBA means that any particular decision become harder to telegraph.

The upside is a more rigorous debate where the operating institution is subject to a greater degree of interrogation of its recommendation.

As the Governor hinted in her press conference that sort of debate and diversity heralds a more disciplined approach to decision-making.

Markets and the media may have to get used to the new communications paradigm.

In that endeavour they might be assisted by more communication from non-RBA staff members of the RBA MPB.

By Stephen Miller, investment strategist

The post Is an increase in oil prices inflationary or disinflationary? appeared first on AdviserVoice.

Stephen Miller

The Federal Reserve (Fed) faces a somewhat different decision than the Reserve Bank of Australia (RBA).

In the absence of the sharp rise in oil prices, there would be an argument that the subdued February payrolls report released last Friday and a “benign enough” February consumer price index (CPI) report released overnight leaves the door ever so slightly ajar for the Fed to cut the policy rate when it meets next week.

The February core inflation measure at 2.5 per cent was the lowest since the depths of COVID back in March 2021 and comes despite the inflationary effects of tariffs. The US trimmed-mean measures came in around 2.7 per cent, the lowest since April 2021. By contrast the latest trimmed-mean inflation rate measure for Australia is at 3.4 per cent (12 months to January).

So on those measures, even with the price pressures arising from tariffs, the US better performed on inflation than Australia.

It is true that measures of the inflation “pulse” (3-month annualised measures) are less benign with core and trimmed-mean measures running at 3.0 per cent and 2.9 per cent respectively.

Also complicating the picture a little is that the Fed’s favoured core private consumption expenditures (PCE) measure is “sticky” at 3.0 per cent (12 months to December 2025), unchanged from where it was a year ago and still well north of the Fed’s target 2 per cent. The January figure is released on Friday. Consensus expectations imply little improvement and perhaps even a slight deterioration.

Federal Reserve Chair designate, Kevin Warsh, conjectures that disinflation in the US (of which there are glimpses in CPI-based measures) will follow from tremendous (largely AI motivated) investment. In Warsh’s view that investment has wrought a productivity dividend that (other things equal) has raised the US economy’s “speed limit”. In other words, the US economy can grow at faster rate before igniting inflationary pressures.

That is a credible –  if eminently debatable –  position.

That is what leaves the door ever so slightly ajar for policy interest rate reductions in the US.

Another question is oil prices. Do they have the potential to unanchor inflation expectations which were already under assault from tariff impositions? Are they inflationary? Or could they ultimately be disinflationary given the activity diminishing effects of higher oil prices.

During the 1990s and into the early 2000s oil prices had a stronger ultimate disinflation impact because there were a number of structural forces suppressing inflation.

It may be less true in 2026.

The globalisation of labour supply (after the fall of the Berlin Wall and the “export” of labour from large emerging market economies such as China and India) is abating; globalisation of goods markets is in retreat as governments everywhere introduce protectionist measures; domestic regulation of goods and labour markets is increasing in scope leading to loss of flexibility in markets and attendant upward price pressures or “sticky” inflation”; and baby boomer workforce participation is declining (limiting labour supply and lifting wages).

But what the US has going for it is that the surge in productivity is a structural disinflationary force that is not visible elsewhere, including in Australia. US productivity growth has averaged 1.6 per cent per annum since the end of 2021. The equivalent Australian figure is -1 per cent. To put it more starkly, US productivity has grown by 6.4 per cent in that time, Australia’s productivity has fallen by 4 per cent.

That arguably puts the Fed in a better position than the RBA to “look through” any inflation impact from oil prices.

For what it is worth, in the unlikely event of a sharp decline in annual core PCE in January, I suspect that the Fed will eschew a policy rate reduction next week. The Warsh “productivity dividend” thesis is probably not yet sufficiently established to offset the current “stickiness” in core PCE inflation and there is the lingering potential for the surge in oil prices to un-anchor inflation expectations.

But if the incoming Fed Chair’s thesis is borne out, the policy rate may yet be lowered later in the year.

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Stephen Miller

For those looking for some mortgage relief, yesterday’s release of the January consumer price index (CPI) didn’t make for pleasant reading.

The best thing that might be said about yesterday’s release is that it probably wasn’t that different to any expectation the RBA may have held.

The current RBA forecast has trimmed-mean CPI inflation coming in at an annual 3.7 per cent to the June quarter 2026. That implies something close to 0.9 per cent in the March and June quarters.

Yesterday’s release was by and large consistent with that.

Of course, the real question is whether attainment of the RBA forecast is sufficient to forestall a further hike, at least in the absence of an unforeseen deterioration in the labour market.

That is not yet clear but in her “fireside chat’ last night, RBA Governor Bullock noted that judgements on the path of monetary policy had become “more difficult” and suggested a “patient” approach to decision making was apposite given a lack of clarity on the balance of risks between inflation and the labour market.

She described the current circumstance as one “where the labour market…is a little bit tight and inflation is a bit elevated”.

Those comments suggest to me that the current thinking of the RBA Monetary Policy Board is to leave the policy rate unchanged when it meets in March, but that May is a “live” meeting. A “patient” approach would give the RBA time to assess not only the implications of more inflation data but gain some insight as to how other potential drivers of inflation (wages, fiscal policy etc.) are unfolding.

Given that the RBA increased the policy rate in February that seems appropriate.

The forgoing therefore points to the May meeting as the critical decision juncture.

By Stephen Miller, investment specialist

The post A “patient” RBA and January CPI: March unlikely but May “live” appeared first on AdviserVoice.

Stephen Miller

Last night’s January jobs report appears on the surface to put further Fed policy rate reductions in indefinite abeyance.

In the wake of President Trump’s “Liberation Day” announcement back in April 2025 there were a plethora of dire prognostications issued over the likely course of the US and global economy.  In essence the received wisdom was that the tariff announcements would at least in the short-term make inflation “stickier” and that further, in order to quarantine that price impact from becoming embedded in inflation expectations, and thereby become self-fulfilling, the US Federal Reserve (the Fed) would need to adopt a conservative approach to reductions in the policy rate. Additionally, a lax approach to the budget deficit that was already around 6 1/2 per cent of GDP would compound an already challenging bond issuance picture that would see bouts of market indigestion that would at the very least prevent bond yields from falling and perhaps send them higher. 

An environment of relative monetary tightness, combined with some activity diminishing impact from tariffs and higher bond yields were thought to presage a “stagflation-lite” type scenario with inflation stuck at 3 per cent or more, and activity growth flirting with a recessionary environment. That was thought to be a particularly challenging environment for risk markets. 

 Certainly, elements of that macroeconomic scenario did eventuate: inflation was “sticky” (but maybe not as “sticky” as feared); the Fed erred on the conservative side when it came to rate cuts: and US 10-year bond yields spent most of the time since “Liberation Day” comfortably north of 4 per cent.

 Economic growth, however, barely missed a beat even if labour markets did show some signs of cooling (albeit remaining some way from a feared cratering).

 Using the current Atlanta Fed GDPNow December quarter number of 3.7 per cent as a proxy for that quarter (which includes the softer than expected December retail sales data released on Tuesday), US GDP growth averaged around 2.8 per cent in 2025. That is healthy clip and way above what was thought likely back in April. 

Last night’s payrolls data seemed to indicate that the labour market remains in a satisfactory position. Employment grew 130k led by a 172k advance in private employment and the unemployment rate unexpectedly fell to 4.3 per cent. No real signs there of an AI led jobs apocalypse.

Despite being some way from an apocalypse, it is still probably the case that in aggregate jobs growth might have expected to have been a little greater over the last year or so given what we know about activity growth. The missing link is productivity and what it might imply for the US economy’s speed limit and inflation.

Since the end of 2022, US productivity growth has averaged around 2.5 per cent per annum. (By contrast, Australia’s productivity growth has been around -0.5 per cent over the same period.)  Currently consensus forecasts for January core inflation suggest an outcome of around 2.5 per cent when that report is released tomorrow. That would be the lowest since the depths of COVID back in March 2021 and comes despite the inflationary effects of tariffs. US trimmed-mean measures are thought to come in around 2.8 per cent, the lowest since May 2021. Again, by contrast Australia’s trimmed-mean inflation rate is higher than a year ago at 3.3 per cent (12 months to December).

As Federal Reserve Chair designate, Kevin Warsh, points out tremendous (largely AI motivated) investment has wrought a productivity dividend that has raised the economy’s “speed limit”, allowing the economy to grow faster before igniting inflationary pressures thereby opening up the prospect of policy interest rate reductions in the US. This is a credible, if debatable, position. 

The emergent disinflation picture suggests that a cut in the policy rate is still some possibility under Chair Powell even with a better performed labour market in January. That might be less likely with ongoing resilience in the labour market but not impossible should ongoing falls in inflation occur.

And a changing of the guard at the top of the Fed could well see the policy rate lowered multiple times this year, especially if the incoming Chair’s thesis is accurate.

Quick update on the RBA: further policy rate increases far from a done deal

In contrast to the US, the inflation picture in Australia seemed to deteriorate reasonably rapidly over the latter part of 2025.

The causes have been long discussed and are reasonably well known (too much monetary easing, lack of fiscal and structural / regulatory support for anti-inflation policies, deteriorating productivity / high unit labour costs) and I don’t intend to traverse them again. However, there is somewhat of a glimmer of hope on the inflation front even if there is a sting in the tail when it comes to profit margins.

The latest NAB Monthly Business Survey for January released earlier in the week revealed product price growth and retail prices growth fell to 0.5% and 0.3% respectively (January per cent change at a quarterly rate). Those price growth measures sit at their lowest levels since 2021.

Significantly, both purchase and labour cost measures are also at their lowest since 2021 but are running higher than product and retail price growth (and have been for some time), implying potentially significant pressure on profit margins. 

That glimmer of a more positive inflation picture at the margin suggests that further policy rate increases from the RBA are far from a done deal.  

By Stephen Miller, investment strategist

The post No AI jobs apocalypse but Fed rate cuts not dead yet appeared first on AdviserVoice.

Stephen Miller

As late as 21 January, markets had rated the probability of an upward adjustment to the policy rate at next week’s RBA Monetary Policy Board meeting at around 25 per cent.

That changed dramatically with the release of a blockbuster December labour force revealing strong growth in employment and a fall in the unemployment rate to 4.1 per cent. Markets revised that probability up to around 60 per cent.

Even then, and with some justification, the notion persisted in some quarters that with a greater than usual amount of uncertainty clouding the global economic landscape, the discretion of no change would prevail over the valour of a policy rate increase.

However, in the wake of the release of the December consumer price index, revealing inflation pressure over and above that forecast by the RBA, discretion may dictate a hike at the February meeting. The more valourous (if less advisable) path may be to leave the policy rate unchanged.

That is, inflation is a clear and present danger and attending to that danger now by raising the policy rate at the February meeting is the most appropriate RBA response.

A failure to do so may well necessitate more aggressive use of the policy rate instrument down the track. As the saying goes “a stitch in time saves nine”.

RBA Deputy Governor Hauser has warned last that the RBA doesn’t draw a line in the sand on inflation to the extent that there is an outcome for the trimmed-mean that mandates a tightening. But the December quarter outcome is impossible to ignore.

The annual trimmed-mean inflation rate is running at 3.4 per cent against an RBA forecast of 3.2 per cent and a target of 2 to 3 per cent.

With a strong rebound evident in consumer spending and the labour market looking to be in relatively good shape, this leaves the balance of probabilities strongly in favour of a policy rate rise.

Moreover, other arms of economic policy are doing little to get inflation down. Indeed, the inflation problem is being exacerbated by government policy at both state and federal levels.

At the risk of sounding like a broken record, I have in the past made the observation that Federal and State Governments have long averted their eyes to meaningful structural reform that may assist productivity growth and ameliorate inflation pressures. Indeed, successive Federal and State governments have reversed some of the progress made during the Hawke-Keating and Howard eras.

Of particular note are regulatory forays into wage-setting arrangements and the industrial relations arena which have proven inimical to productivity growth.

That has seen unit labour cost growth run at around 5 per cent, something manifestly irreconcilable with the RBA’s current 2 to 3 per cent inflation target.

Fiscal policy too (at State and Federal level) has done little to attack the fundamentals of inflation pressure.

That leaves me thinking that the RBA should raise the policy rate when it meets next week.

I suspect it will.

The Fed: not yet maybe later…

As had been almost universally expected, the Fed’s Federal Open Market Committee (FOMC) overnight announced that it had kept the policy rate unchanged in the 3.5 to 3.75 per cent range.

Of course, that won’t please the White House but with US economic activity growth exceeding expectations and inflation still exhibiting some “stickiness” the decision to leave the policy rate unchanged is eminently defensible.

The decision to hold the policy rate in its current range was not unanimous with two Fed Governors favouring a lowering of the policy rate.

In announcing the decision, the Fed Statement noted that “economic activity has been expanding at a solid pace” but that “job gains have remained low” even if “the unemployment rate has shown some signs of stabilisation” and inflation “remains somewhat elevated”.

Fed Chair Powell described the current stance as “at the high end of a neutral range” adding that it was hard to say that policy was overly “restrictive”. However, he refused to be drawn on the likelihood of when there might be a future rate cut. Rather he thought the Fed “well positioned” to respond to incoming data.

The “dot plot” issued at the last meeting in December 2025 indicated only one policy rate reduction would be appropriate in 2026.

In essence today’s decision reflects some anxieties around ongoing inflation in the system, even if those anxieties are slowly dissipating as disinflation continues in the service sector and tariff effects wind their way through the goods sector. In essence, the Fed Chair in his press conference appeared to imply some progress toward the Fed inflation objective but was careful to note that the Fed remains focused (and has had some success) on keeping inflation expectations anchored.

With signs of some stabilisation in the labour market therefore and given strong activity growth the Fed consensus doesn’t yet see room for cutting the policy rate.

Against that it might be argued that strong US productivity growth reflecting, inter alia, strong AI investment might well yield an inflation dividend, perhaps increasing the US economy “speed limit” and that the Fed can accordingly cut the policy rate.

To that end, there seemed to be some nod from the FOMC that they are cognisant of risks that the labour market may soften further noting that it “would be prepared to adjust the stance of monetary policy as appropriate if risks emerge that could impede the attainment of the Committee’s goals”.

All that added up to the Fed retaining maximum optionality in terms of when there might be an adjustment to policy meaning that the Fed course remains heavily data dependent.

The forgoing to my mind suggests that a cut in the policy rate at some stage is still a strong possibility under Chair Powell.

Whether a more aggressive approach to cutting rates eventuates, rather than just the one cut in 2026 implied by the “dot plot” depends not only on economic developments but probably also on whomever succeeds Powell as Chairman when his term expires in May.

That changing of the guard at the top could well see the policy rate lower than that implied by the “dot plot”.

By Stephen Miller, investment specialist

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