Inflation still accelerating but no one cares

Wed, 23 Apr 2014  |  

It would be a wild exaggeration to say that Australia has an inflation problem, but the March quarter CPI highlighted the fact that the strength of the domestic economy is spilling over into a somewhat uncomfortable acceleration in the inflation rate.

While the March quarter inflation rates came in under market expectations (which says more about those expectations than it does about the actual hard data), inflation is moving higher.

Whether it is the annual headline inflation rate – which has risen from a low of 1.2 per cent in the June quarter 2012 to 2.9 per cent now – or the underlying inflation rate – which has risen from a low of 1.9 per cent to 2.7 per cent now – the RBA can no longer sit on a record low cash rate of 2.5 per cent and be confident that a further acceleration in the inflation rate wont happen.

Left unchecked, there is more chance the inflation rate will exceed 3.5 per cent than it will drop below 2.5 per cent in the year ahead. This suggests the RBA is playing a very dangerous game in its refusal to contemplate even a moderate winding back of the current monetary policy stimulus that has been in place for a year.

What could be worrisome about the recent upward momentum in the inflation rate is that it has occurred with wages growth near historical allows. This means we are not seeing cost-push inflation (the old wage/inflation 'spiral') but demand-pull inflation, which results from demand running ahead of capacity.

One only needs to look at the strong growth in retail spending, the record high level of new house building and the massive $1 trillion boost to wealth over the last two years from rising house and stock market prices to see why firms are able to get away with price increases to eager consumers.

While it is early days with the turn in labour market conditions, any upshift in wages growth would, according to RBA orthodoxy, only add to inflation pressures.

With the economy showing no sign of losing momentum, it seems obvious that interest rates need to move towards a neutral rate around 3.5 per cent. The RBA should still be taking out the proverbial insurance against an inflation breakout later this year and into 2015 by hiking the cash rate by 25 basis points rates very soon as it starts along the path back to, say, 3.5 per cent for the cash rate.

The fall-away in mining investment is being swamped by stronger growth elsewhere. The transition is occurring and the threat to economic growth from a tight budget seems very low risk given the countervailing boost to government spending on infrastructure, paid parental leave, defence and a raft of other Coalition favourites.

The next RBA Board meeting is 13 days away. The RBA should be hiking interest rates but its body language now makes that unlikely. Inflation is getting uncomfortable, the RBA knows it, but obviously wants to see the inflation pressure build further before acting.

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Change of view on interest rates

Fri, 24 May 2019

Having been the only economist to correctly anticipate an interest rate cut from the RBA when close to 50bps of interest rate hikes were priced in to the market last year (See Bloomberg 17 August 2018), I have agonised over the exact months the cuts would be delivered and then how many rate cuts would be needed to reflate the economy.

Recently, I was of the view that the RBA would need to cut 100bps from now, to a level of 0.5%, but I did so with relatively low confidence. This is why I recommended all clients to close their long interest rate positions on 17 April 2019 (when the implied yields were 1.10% for the mid 2020 OIS; 1.35% on 3 year yields and the Aussie dollar was just over 0.7000 at the time).

Like in most good trades that were massively in the money, I left a little money on the table while I reassessed the outlook.

Since calling for interest rate cuts from the RBA, a lot of water has passed under the bridge, especially in the last few weeks.

Events mean I am changing my view on interest rates and have been placing / will be looking to implement new trades.

Watch out Australia: There's a flood of dismal economic news on the horizon

Wed, 01 May 2019

This article first appeared on the Yahoo Finance website at this link:


Watch out Australia: There's a flood of dismal economic news on the horizon

The Australian economy is in trouble and Scott Morrison and the Liberal Party government need to come clean and acknowledge this and outline a framework how this period of economic funk is to be addressed if they win the 18 May election.

The Liberal Party is campaigning in the election on a “strong economy” and being “good economic managers”, bold claims that fly in the face of the latest score card for the economy.

That scorecard shows a flood of what is, frankly, disappointing or even dismal economic news. Australia is going through a very rare recession in per capita GDP terms and last week saw data showing zero inflation in the March quarter. Contribution to these indictors of economic funk is the fact that well over half a trillion dollars of householder wealth has been destroyed as house prices have tumbled.

Add to that the fact reported by the Australian Office of Financial management last week that gross government debt is $543 billion, almost double the level that the Coalition government inherited in September 2013, and the scorecard is looking very ratty indeed.

As the ad man used to say, “but wait, there’s more”.