RBA Governor Lowe Dismisses Market Pricing For Cash Rate Hikes

--Difficult to understand why rate hikes priced next year or early 2023
--RBA judgement on cash rate stand in contrast to OIS curve
--Others might raise policy rates but our wage, inflation experience quite different
--No plan to lift cash rate to cool property market
--Poor trade-off in current circumstance if higher rates used to lower house prices
--Watching sustainability of trends in household borrowing closely
--CFR discussing possible regulatory steps if lending stds worsen, credit growth accelerates
--Delta delaying economy’s progress but not expected to derail resilient economy
--Want to see actual results on inflation, not forecasts, before lifting cash rate
--Remain well short of “at least 3%” wage growth to meet rate hike condition
--Evidence suggests expected bond-buys matter more than weekly purchases
--Will hold 35% AGS, 18% Semis by February
--Delayed further bond taper until Feb to account for delay in econ recovery
--Continuing bond-buys at A$4B rate will provide insurance against downside
--Econ will contract significantly in Q3; likely 2% contraction and possibly more
--Econ contraction in Q3 major setback but likely only temporary
--Further Covid-related restrictions, household response main uncertainties
--Uncertainty on jobless rate; won’t be surprised with “high fives” for short period

By Sophia Rodrigues

(Sydney, September 14, 2021)—Expectation on cash rate hikes priced in the market is difficult to reconcile with the Reserve Bank of Australia’s judgement that a lift in the cash rate will not happen before 2024, Governor Philip Lowe said Tuesday.

In a speech titled, “Delta, the Economy and Monetary Policy” delivered online to the Anika Foundation’s annual luncheon event, Lowe’s main message was that the Delta variant of Covid-19 is delaying progress but not expected to derail the Australian economy.

Lowe noted the current OIS (Overnight Indexed Swaps) curve implies a cash rate of around 25bps by end-2022, 60bps by end-2023 and close to 100bps at the end of 2024.

“These expectations are difficult to reconcile with the picture I just outlined, and I find it difficult to understand why rate rises are being priced in next year or early 2023,” Lowe said.

This is the first time any senior RBA official has so clearly dismissed market pricing on the path of cash rate.

Lowe acknowledged policy rate might be increased in other countries over this timeframe, but in Australia the wage and inflation experience is quite different.

The RBA will not increase the cash rate until actual inflation is sustainably within the 2% to 3% target range, and its judgement remains that this condition for a lift in the cash rate will not be met before 2024.

Lowe stressed that it won’t be enough for inflation to just sneak across the 2% line for a quarter or two.

“We want to see inflation around the middle of the target range and have reasonable confidence that inflation will not fall below the 2--3 per cent band again,” Lowe said. He added that meeting the inflation criteria will require a tighter labor market and wage growth of at least 3%.

Currently the wage growth is well short of this and this was confirmed in the latest reading on wage price index which showed that even in industries where there has been strong demand for labour, wage increases remain mostly modest.

On the housing market, Lowe said the RBA has no plans to life the cash to cool the property market.

“While it is true that higher interest rates would, all else equal, see lower housing prices, they would also mean fewer jobs and lower wages growth. This is a poor trade-off in the current circumstances,” he said.

The RBA along with the other member of the Council of Financial Regulators are closely watching sustainability of trends in household borrowing and discussing possible regulatory steps if lending standards deteriorate or credit growth accelerates too much, Lowe said.

On the bond purchase program, Lowe said the decision to extend the tapered amount of A$4 billion a week took account of the fact that the delayed recovery means that it will take longer to achieve the inflation goals.

“Continuing with the bond purchases at the announced rate for a longer period will also provide some additional insurance against downside scenarios,” he said.

Lowe reiterated RBA’s previous comments that bond purchases have a bigger impact via expected stock of purchases rather than the amount bought each week. The RBA’s cumulative bond purchases would be A$275 billion by February and it will hold around 35% of Australian government bonds and 18% of state and territory bonds.

Lowe said he expects economic activity to bounce back once restrictions on activity will be eased.

“While it is hard to be precise about the pace and timing of this bounce-back, in the RBA’s central scenario, economic activity is expected to be back on its pre-Delta track by the second half of next year,” he said.

In the near-term, however, Lowe expects the economy to contract significantly in the September quarter, likely by at least 2%, and possibly significantly larger than this.

There is also uncertainty about the unemployment rate but it would not be surprising to see readings in the high fives for a short period of time, Lowe said.

--Contact: Sophia@centralbankintel.com