The market rushed to price in a July RBA rate cut, following Gov Lowe’s 20 June speech, The Labour Market and Spare Capacity. I’m not so sure.
On the surface the setup coming into the July meeting (speech 20 June and speech after the meeting) looks similar to the June meeting (speech on 21 May, speech booked for right after the meeting), there are a few important differences.
The first and most important is that the easing bias in the 20 June speech didn’t have a meeting date attached. You’ll recall that in The Economic Outlook and Monetary Policy, Lowe concluded that:
at our meeting in two weeks’ time, we will consider the case for lower interest rates.RBA Gov Lowe, The Economic Outlook and Monetary Policy, 21 May
The easing bias in the 20 June speech is less specific. The section on monetary policy is reproduced below:
It would, however, be unrealistic to expect that lowering interest rates by ¼ of a percentage point will materially shift the path we look to be on. The most recent data – including the GDP and labour market data – do not suggest we are making any inroads into the economy’s spare capacity. Given this, the possibility of lower interest rates remains on the table. It is not unrealistic to expect a further reduction in the cash rate as the Board seeks to wind back spare capacity in the economy and deliver inflation outcomes in line with the medium-term target.RBA Gov Lowe, The Labour Market and Spare Capacity, 20 June
So while there’s a clear message that rates need to fall further to put the economy on the right path — it’s not as specific about timing.
Anyhow, the need to cut further is old news. The RBA has told us multiple times that they baked 50bps of rate cuts (Aug & Nov) into their May forecasts, and that things would be worse if they weren’t delivered.
Gov Lowe reminded us of this fact in his cut setup speech on 21 May, and again in his immediate post cut speech, Today’s Reduction in the Cash Rate, on 4 June. Indeed, in his 20 June speech he used language that is (deliberately?) similar to the language he used in his 4 June speech.
it is not unreasonable to expect a lower cash rate. Our latest set of forecasts were prepared on the assumption that the cash rate would follow the path implied by market pricing, which was for the cash rate to be around 1 per cent by the end of the year.RBA Gov Lowe, Today’s Reduction in the Cash Rate, 4 June
So he has been saying ‘cuts to come’ for a while now — and the 20 June speech wasn’t a new development on the 4 June speech.
The post-meeting speech he has booked looks a bit suspicious — but look at market pricing! The market thinks a July cut is a certainty (it was ~90% sure last week). So particularly if he does not deliver a cut he will need to explain what’s going on.
But if his mind is made up about the need to ease, why not cut in July?
Well, why didn’t he cut in May — they assumed 50bps of cuts and produced a set of weak forecasts, so a rate cut should have been a lock. I suppose they wanted to wait and see…
Having waited to see, they decided to deliver on only one of those cuts in June. But if the baseline was two cuts, why not just do them both? I suppose they wanted to wait and see. Also, 50bps cuts are unusual.
Well, back to back cuts are also unusual. We last saw a pair in 2012 (May + June). Every cut since that time has been 25bps. And the six cuts from 2013 to 2016 were all 2x25bps on adjoining SOMP months. So July would also seem out of character — unless you had a growth problem, or figured you were clearly at the wrong rate. It’s an unusual action, so something unusual must exist to justify it …
The market certainly thinks we are in unusual times. But the Governor doesn’t seem to agree. He keeps saying that the May SOMP forecasts are on track — and since he’s got back from the G20, he’s been saying that the IMF was telling them that things were picking up (with the obvious caveats about the US-China trade war).
What about the NAIRU? Does a lower NAIRU create urgency?
Gov Lowe first said that he figured the NAIRU was around 4.5% in QnA following the speech, Trust and Prosperity, on 20 November 2018. The board sat on that view for six months before it decided to act. Doesn’t seem urgent to me.
So the situation is that the May forecasts are on track, and the IMF is growing more upbeat. The G20 is an imponderable, it might create a mess — but perhaps it will be benign.
And the challenge of keeping up with the Fed seems to be fading — with the ever-dovish Jim Bullard saying that he doesn’t see the case for a 50bps cut in July.
So no, I don’t think the RBA will cut their cash rate in July. It would be odd and out of character for a Governor and a Board that has emphasised that importance of the Bank being ‘a source of stability and confidence’ over the past few years.