The RBA today published their Q2 2013 SOMP. The bottom line is that every meeting is live, but i think they are more likely to await the Q2 CPI data before easing further. If there’s some bad demand side data, they could cut at any meeting, however if it’s just a case of (more) plodding growth, they’ll likely await the CPI reports and cut if inflation remains low.
The Q2 SOMP does not fully clear up the confusion i felt following Tuesday’s rate cut, but it helps. In part because it reveals a little of the RBA’s confusion.
To me, the SOMP feels a bit ‘between horses’ — my sense is that the RBA will cut if their forecasts prove correct. So why wait? I sense a degree of ‘wait and see’ about the new low inflation view that’s embodied in these forecasts.
First of all, I think it’s great that the RBA has continued to publish their GDP and CPI fan charts. I think its healthy to be open about how hard this forecasting gig is, and the amount of judgement that is required to do a good job (and I think that they have done a very good job).
Anyhow, onto the SOMP.
As I suspected prior to the May RBA meeting, the RBA’s demand forecasts have not been downgraded. Q4 was weaker than they expected (we already knew that) but Q1’13 appears to have been upgraded ever so slightly (+20bps to 2.8%).
Meanwhile, the growth low has been pushed back a quarter to Q1’14, and marked fractionally lower. The tail of the recovery looks better, but that may be due to how I made the charts. There was no fan-chart forecast for 2015 in the Q1’13 SOMP, so I used the middle of the range given in the table, and this may have depressed the Q1’13 SOMP’s 2015 estimates.
All told, there’s no upgrade (which I had thought possible prior to the May meeting) but neither is there a downgrade. My bottom line — they didn’t cut because of a demand downgrade.
On the inflation side we can clearly see the reason for the rate cut — inflation is too low even assuming a 2.75% cash rate. It would have been a nit lower if they had not cut, as then they would have assumed a 3% rate. In these forecasts, core inflation never gets back to 2.5%y/y. That’s unacceptable for a central bank that targets 2.5%
Long term forecasts are not very reliable, so the RBA won’t put too much weight on this, however it is a good reason to cut again. More weight will be placed on the nearer term forecasts, which are even more concerning.
Core CPI inflation is forecast to fall to ~2.15%y/y later this year which is way too low (note: this chart shows average core CPI, unlike the above RBA core CPI fan-chart, which shows trimmed mean inflation; trimmed mean inflation is below average core, and touches ~2% in 2013 as trimmed mean CPI was ~20bps lower than weighted median CPI in Q1 2013).
All told, I feel a little more comfortable that something has happened to the RBA’s judgement of the supply side. They have published very similar growth numbers, and meaningfully lower inflation, despite a lower cash rate. This suggests that the RBA either thinks the output gap is wider, or that potential growth is higher – probably a bit of both.
So what does this mean for monetary policy? The bits of the forecasts that are reliable are the short term forecasts, and these show that inflation will be around the bottom of the band and that growth will be well below average for the next six quarters.
With this combination of forecasts, I expect that the RBA will cut at least twice more this year.
Why not right away? I think that’s because forecasting is hard, and judgements about potential supply are even harder; so they would like to wait and confirm their theory.
If demand (GDP) and inflation (CPI) come in around RBA forecasts, I expect the RBA will cut following each of the CPI reports this year, taking the cash rate to 2.25% by the November meeting.
If demand is around forecast and CPI is higher than expected, it’ll show that supply hasn’t moved out, and the RBA will hold. If demand looks like it’s flagging, expect earlier cuts. What about hikes? Not likely until we have navigated the end of the mining boom …
Finally: It would be great if the RBA published all the data in their charts in a machine readable format (as the RBNZ does). If you have time and interest you can get the data from the charts with freely available tools (I used this one). There’s no public interest in hundreds of people each wasting an hour doing this, so I hope they consider this further step toward open policy making.