In another demonstration where highly paid screen jockeys will see what monetary policy they want to see, yesterday’s announcement by the Reserve Bank about tapering its quantitative easing program saw bond markets embrace a “rate rise looms” stance for 2023 (and 2022 in a couple of cases) instead of 2024.
And by doing so they yet again ignored what RBA governor Philip Lowe actually said in both his post-meeting statement and a rare media conference afterwards.
With the bank committed to paring back its bond buying program by 20% and not extending it to the November 2024 bond, Lowe indicated it was broadly happy with the state of the recovery but still committed to a highly accommodative monetary policy of near-zero interest rates and continuing quantitative easing until its goal of inflation sustainably within its target band of 2%-3% had been reached.
But the screen jockeys got excited when Lowe told the media conference the bank had looked at other scenarios which saw rates rising earlier than 2024. And they fused that with a rewording of the key final paragraph of his post-meeting statement to be a little more positive about the outlook.
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The wording in recent RBA post-meeting statements has been that the conditions for tightening monetary policy were “unlikely to be until 2024 at the earliest”. Yesterday that became that the bank “will not increase the cash rate until actual inflation is sustainably within the 2 to 3% target range. The bank’s central scenario for the economy is that this condition will not be met before 2024. Meeting it will require the labour market to be tight enough to generate wages growth that is materially higher than it is currently.”
Of such nuances is central banking made.
But Lowe was direct and clear in his statement to begin his media conference:
The board does not intend to increase the cash rate until inflation is sustainably within the 2 to 3% range. It is not enough for inflation to be forecast in this range. We want to see results before we change interest rates. Any increase in the cash rate will take place after bond purchases have ended.
That is the clearest he has been on the use of the word “sustainably” in this context. No talk about inflationary expectations, forecasts or projected yield curves. He and the RBA want to see a number of quarters where the core readings of the Consumer Price Index (the trimmed mean and weighted median — averaging an annual 1.2% at the moment) are well above 2% and looking to remain that high.
Lowe also wanted to clarify that this was about outcomes, not about timing: “I want to reemphasise the point that the condition for an increase in the cash rate depends upon the data, not the date; it is based on inflation outcomes, not the calendar. The central scenario remains that the condition for a lift in the cash rate will not be met until 2024.”
So if the data is strong enough in 2023, then the cash rate could very well rise. But:
For inflation to be sustainably in the 2 to 3% range, it is likely that wages growth will need to exceed 3%. That is on the basis that labour productivity continues to increase and that the labour share of national income remains broadly steady. The current rate of wage growth is materially less than 3% and we expect it will be a few years still before it increases back above 3%.
Lowe pointed out that inflation could also rise for other reasons — but they tend to be more temporary: “History teaches that sustained changes to the inflation rate are accompanied by sustained changes in growth in labour costs.”
And while he noted the improvement in employment this year (which would lead to upgrades to RBA forecasts) he said: “What we haven’t seen is the same upside surprises on wages.”
Lowe did not say what the RBA would do if it becomes apparent wage growth will not reach 3% by 2023, or inflation stutters around 2% or a just a bit less. There’s a very good chance of that happening. Why else would Lowe wonder near the end of his media conference that it would be very strange if the same dynamics that have kept wages growth and inflation muted since the GFC suddenly evaporated over the coming 18 months.
Rate rise looms? Don’t put your house on it.