RBA preview: Hawkish pause in June with further signs of cooling demand

While the Bank of Canada and the European Central Bank have begun to ease, the Reserve Bank of Australia (RBA) will not be swayed, as inflation has remained sticky in Australia. In fact, the headline CPI rose from +3.5% YoY in March to +3.6% YoY in April, above the Reserve Bank’s 2-3% inflation target range (Chart 1). The main reason is that services inflation has been elevated with housing rents surging +7.5% YoY, on the back of a tight labor market. As a consequence, trimmed mean, the Reserve Bank’s measure of underlying inflation, picked up from +4.0% YoY to +4.1% YoY during the same period.

Nevertheless, these developments don’t justify an additional rate hike. After the RBA aggressively tightened to stabilize inflation, higher mortgage payment, which is estimated to rise to about 10.5% of household disposable income, have eroded consumers’ purchasing power. On the back of these developments, GDP per capita contracted by five consecutive quarters. Because consumer confidence has remained low, nominal retail sales have been on a downward trend by just rising +1.3% YoY in April. In addition to these developments, the job market has been showing signs of cooling. While the unemployment rate fell from 4.1% in April to 4.0% in May, job vacancies, a leading indicator of employment, declining by -15.3% YoY in May. With rising part-time employment, the underutilization rate was flat at 10.7% in May. Therefore, further tightening to contain inflation could trigger a recession.

On the other hand, the RBA would not feel the urgency to ease soon, despite of deteriorating economic fundamentals. Because the Fed has remained cautious in easing on the back of a resilient US economy, the Aussie has depreciated by 3.4% year to date. Hence, an earlier rate cut by the RBA could weaken the Aussie further, which would in turn fuel inflationary pressure in Australia.

Therefore, after balancing the risks of rate hike on growth and rate cut on inflation, the RBA is expected to wisely decide a status quo on June 18th by keeping a hawkish stance to contain inflation expectations while keeping an eye on cooling demand.

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