Australia: RBA leaves rate unchanged in July
July 5, 2016
The Reserve Bank of Australia (RBA) met market expectations at its 5 July monetary policy meeting and kept its policy rate at a record low of 1.75%. The decision came shortly after the general? elections held on 2 July and, although it appears that the governing Liberal-National Coalition is set to retain power, events are still taking shape and the potential exists for negative implications for business confidence, the reduction of the fiscal deficit and key taxation reforms.
The RBA’s accompanying statement was largely unchanged from June’s meeting. The global recovery is moderate and uneven across countries, while financial markets have settled following heightened volatility earlier this year. The RBA did however mention the consequences of the Brexit vote and stated that, “any effects of the referendum outcome on global economic activity remain to be seen and, outside the effects on the UK economy itself, may be hard to discern.” At home, the economy’s transition away from a resource-extraction-based growth model to one based more on services is underway. However business investment still represented a soft spot in the Australian economy.
In May, the RBA made a surprise 25-basis-point cut to its cash rate amid the release of lower-than-expected inflation numbers for Q1. Recent wage data that show weak growth in labor costs suggest that inflation remained subdued in Q2. A weaker AUD would be helpful in bolstering inflation, however the dollar has been following an upward trend over the past 30 days, which threatens to put downward pressure on inflation. Behind the appreciating exchange rate is the decreased likelihood of another rate hike in the U.S. Market participants who initially envisioned one or more Federal Reserve rate hikes this year are now adjusting their outlook in the wake of the Brexit referendum. This has thus caused the Australian dollar to grow even stronger against the USD.
If the Liberal-National Coalition manages to win a majority in Australia’s Lower House of Parliament, it will be a narrow one, and a period of uncertainty is likely to persist. Leaving the rates unchanged gives the RBA more ammunition should if feel it needs to lower the cash rate in the future. This could happen if fiscal spending is delayed due to quarreling amongst parties in the fractured parliament. The RBA left out any explicit forward guidance from its accompanying statement, which indicates that the RBA is not clear on the future path of the cash rate. However, given the downward pressures on prices it is possible the Bank will take action on its next policy meeting which is scheduled for 5 August, particularly if Q2 inflation threatens the RBA’s forecast of 1.0%–2.0% average inflation for 2016.
Author: Robert Hill, Economist