The RBA should increase rates today

The RBA should increase interest rates by a further 25bp today.

For most of the month, the data has been pretty finely balanced and I was leaning towards a 'wait-and-see' pause. But two pieces of late arriving data clearly tip the scales towards another rate increase being the appropriate move.

First, the CoreLogic Home Value Index was up 1.1% for June. This is the fourth consecutive monthly increase and should deeply concern the RBA. Both the wealth effect from rising house prices, and the ability to release equity are factors that can keep consumer spending higher for longer. The way our economy is structured, we really need to see house prices falling as part of the equation to bring down consumer demand.

Second, ABS secure housing finance was up a significant 4.8% in May. Coupled with rising housing prices this is a significant concern. As interest rates increase we want to see lending fall. Lending is injecting new money into the economy, generating more demand that will put further upward pressure on prices. Lending increasing is a clear indicator that rates have not gone high enough.  

The housing market is showing pretty significant resilience in the face of higher borrowing costs, and coupled with sticky core inflation and a surprise jump in consumer spending, a rate rise this afternoon is the only responsible option.

Greedflation?

There seems, to me, to be a fundamental issue at the heart of the Greedflation argument.

If you don't know, the core of the Greedflation argument is that Australia has too much market concentration and, as a result, a lot of companies have been able to force through outsize price increases, both fuelling inflation and growing their profits.

However, for the last decade there haven't really been any significant changes in the competitive landscape for our major markets. A few companies have dominated markets like groceries, telecommunications, or electricity the whole decade, and for most of that decade, we had significantly below target inflation.

Did these companies only realise in the last 18 months that they had a dominant market position and could force up prices?

I'm yet to see anyone from the Greedflation camp adequately explain why, all of a sudden, we have a market concentration problem, despite it being just fine for the majority of the last decade.

Retail Turnover and Job Vacancies

Two new bits of economic data out yesterday and neither of them are particularly encouraging.

First, retail turnover figures came in unexpectedly strong. Retails turnover was:
🛍️ Up 0.7% MoM
🛍️ Up 4.2% YoY

This beat expectations by quite a bit and was significantly stronger than recent card spending data out of the big four would have suggested. Discretionary retail spending and eating out where the big drivers of the spending growth.

The ABS attributed some of the growth to sales events in May stimulating spending, but if that is the case, I have concerns about the June figure as big end of financial year sales have been prominent this year.

In any event, consumer spending still trending upwards will not be welcome news to the RBA. Especially when spending remains more than 15% above trend.

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Second, job vacancy figures also came in stronger than expected, falling only 2% from February 2023, meaning there were still 431,600 vacant jobs in May 2023.

This one was way stronger than I was expecting. It's pretty remarkable that Australia has created more than 465,000 jobs this year and we still have more than 400,000 job openings.

These aren't the kind of job vacancy numbers you see from an economy that is about to roll over into a recession and they imply that unemployment may be staying low for a long time yet.

We normally have around 120,000 vacant jobs (just from the usual turnover process) and are adding about 36,000 people to to workforce a month. On that basis, we are around 8 months away from unemployment stating to rise significantly. The only heartening thing about all this, is we've had this situation essentially a year now and we aren't seeing wage growth get out of hand.

It still won't be welcome news for the RBA, who've been clear they want to see unemployment rise as a clear indicator of a slowing economy.

Both these prints turn the dial towards a further rate increase in July and I think its now a finely balanced choice with no real wrong option. Given the data over the last few weeks good arguments can be made for pausing to wait and see, or increasing again. June house price data might provide the tipping point next week.

May 2023 Inflation

We got a misleading monthly inflation print today.

For May 2023: 
💙 Headline inflation was 5.6% (⬇️ 1.2%)
💙 Core inflation was 6.1% (⬇️ 0.7%)
💙 Inflation excluding volatile items was 6.4% (⬇️ 0.1%)

The big fall in headline inflation is certainly encouraging, and what the media will focus on, but it was driven by large moves in volatile categories like transport fuel and holiday travel. Inflation excluding those volatile items saw very little movement.

There is still a lot of stickiness in underlying inflation and big increases in electricity, insurance and rents still to flow through to the CPI next financial year mean we are a long way from getting inflation back into the target range.

That being said, this print does show things heading in the right direction and strengthens the case for the RBA sitting on their hands in July and waiting for another month of data. In particular I'd be keen to see what unemployment does next month before making a call on further rate rises.

Labour Force Report

We got a blockbuster labour force report this month!

In May 2023: 
🔥 Unemployment was back down to 3.5%
🔥 Participation was up to 66.9% (a record 🎉)
🔥 75,900 more people found work
🔥 14,011,800 people were employed (a record🎉)
🔥 Underemployment was up slightly to 6.4%

Despite the slowing economy and interest rate pressure the labour market remains incredibly strong. We have a rapidly growing labour force, mostly fuelled by immigration, and jobs growth continues out outpace it. We saw a record number of Australians employed and a record participation rate in May, and we got this result with a relatively weak sample group rotating in.

These are not the labour force numbers we expect to see from a slowing economy, so they definitely increase the odds of further RBA rate increases in the coming months. That being said, while there are consistent sighs of labour force strength, we have been hovering around this level of unemployment since June last year with little sign of wage growth getting out of check, and strong immigration is preventing unemployment from falling further.

On balance, even with the records, I don't think this print will overly concern the RBA and they're most likely to keep rates at 4.1% next month. 

April Retail Sales

Retail sales were flat in April, continuing the trend of easing consumer demand. However, retail sales still remains well above the long term trend.

In April:
💵 Retails sales were flat MoM and up 4.2% YoY. 
💵 Clothing, Footwear, and Personal Items spending was up 1.9% MoM
💵 Department Store spending was up 1.5% MoM
💵 Household Goods spending was down 1.0% MoM

As usual, the headline number can be misleading, with a big fall in durable household goods spending masking strong growth in personal items and department store spending.

Durable household good spending is more closely linked to housing turnover that consumer demand, meaning flat consumer spending in April is more to do with the slowing housing market than consumers closing their wallets.

This is backed up by data out of the CBA and Westpac, who both saw card spending grow in April.

Consumer spending isn't rolling over under the pressure of falling real wages and rising interest rates just yet.

Consumer Confidence and Inflation Expectation Improve

Some excellent news in the first ANZ-Roy Morgan survey of the year.

💸 Consumer Confidence surged, up 4.9 points to 87.4. The highest since September last year.

💸 Inflation expectation also had a big drop, down 0.9% to sit at 5.0%.

💸 All the confidence sub-indexes improved, indicating a broadly positive view about the economy as we head into 2023.

These are all very good signs to start the year.

While confidence remains low, it looks to be heading in the right direction, which will support spending and help avoid a recession later this year.

While the fall in inflation expectations, if it continues, will place less upward pressure on wages and give the RBA more leeway to slow interest rate increases.

Christmas and Boxing Day spending exceeds expectations

After some low numbers in early December, pre-Christmas retail sales have defied expectations to post a record result. 
 
According to Westpac and the ARA:
💰Christmas spending was up 8.6% YoY for a total of $74.5 billion
💰Boxing Day trading was even better with growth of 15.3% YoY with a daily total of $1.23 billion. 

It seems that Australian consumers aren't done with their post-COVID spending spree just yet.

I expect that above trend retail spending will persist well into 2023, buoyed by low unemployment and the significant excess savings still sitting on household balance sheets.

Consumer sentiment improving

Some interesting data out today.

Consumer confidence was up for the second week in a row, but remains at very weak levels. A combination of a strong labour market and an easing of policy by the RBA seem to have combined to offset the gloomy economic conditions.

On the same note inflation expectations eased slightly from last week, down to 6.3%. However, they are still far too high and have now remained above 5% for all of 2022. There's a not insignificant risk that inflation expectations are becoming anchored well above the RBA's target range.

Time to buy a major household item also rebounded a strong 9.2%, after a cumulative decline of 13 per cent over the previous six weeks. This could be a indication of rising consumer sentiment, or maybe just an awareness that Black Friday sales are incoming.

While this is a pretty good print, these weekly indicators are quite noisy and we've seen more than a few misleading upward turns in consumer confidence this cycle. We need to put together a couple months with a consistent trend before we can be confident things are improving.

The RBA is loosening prematurely

The RBA doubled down on their dovish pivot in the minutes of their November board meeting released this week, declaring they are prepared to pause rate increases for a period.

“Acknowledging the uncertainty, members did not rule out returning to larger increases if the situation warranted. Conversely, the Board is prepared to keep rates unchanged for a period while it assesses the state of the economy and the inflation outlook. Interest rates are not on a pre-set path.”

This is a significant de-facto loosening of monetary policy that was reflected in the implied future cash rate. Since the end of October market prediction of the peak cash rate have fallen from 4.170% to 3.780% yesterday.

This feels like an overly aggressive move by the RBA. They are jumping the gun and loosening monetary policy prematurely. I would have liked to see the following key indicators turning the corner before the RBA slowed or paused rate increases:

⭐️ Consumer spending falling at least back to trend. It currently remains well above trend and has been above trend for years.

⭐️ Inflation expectations falling back towards the target range. inflation exceptions are currently running at 6.5% and have been consistently above 5% for over a year.

⭐️ Unemployment increasing back to trend levels. The unemployment rate was at an all time low of 3.4% and has fallen consistently all year.

⭐️ Some moderation in the ABS's new monthly inflation indicator. While this is a new indicator, it gives a much more timely picture of inflation and have been rising each month since it's introduction.

As Jerome Powell said recently the majority of risk for central banks is in not tightening enough.

"From a risk management standpoint, remembering of course that if we were to over-tighten, we could then use our tools strongly to support the economy, whereas if we don't get inflation under control because we don't tighten enough, now we're in a situation where inflation will become entrenched and the costs, the employment costs in particular, will be much higher potentially. So, from a risk management standpoint, we want to be sure that we don't make the mistake of either failing to tighten enough, or loosening policy too soon."