Relative to market pricing, the economy is starting looking a little better than it was a few months ago, a time when I changed my view on the Australian dollar and interest rates https://thekouk.com/blog/it-s-time-for-a-change-in-view.html. Early days, but so far so good on this call.
Yesterday’s labour force data matched the recent solid rise in retail spending and the spectacular boom in housing construction evident over the last year. The domestic economy is, maybe, on a path to stronger growth with the sources of strength happening to be in labour intensive sectors while the weakness in is areas that does not employment a lot of people. By that I mean the number of workers needed to make an extra $1 million worth of café lattes is considerably more than the number needed to dig out an extra $1 million worth of iron ore.
The unhealthy obsession with the drop in iron ore prices has blind-sided many to the other 90 to 95 per cent of the economy. The trick in economic forecasting and market strategy is, it should be obvious, to look at all aspects of activity all of the time, even if there are outsized moves in some sectors.
To be sure, the RBA should have cut interest rate to 2 per cent some time ago but it seems to have ‘got lucky’ or been prescient anticipating this recent run of better economic news. The case for a further interest rate cut is fading fast with this change of luck. For what it’s worth, commodity prices are off the recent lows, with iron ore now some 30 to 40 per cent higher than the $US35 level Treasurer Joe Hockey was talking about as a possible forecast for his budget next month.
While the news out of China has been slightly disappointing of late, from a global growth perspective, this has been swamped by a stream of upward revisions to economic activity in the Eurozone and India. All together this means that the global growth position for 2015 is at least as good, if not a little better, than was assumed just a couple of months ago. 2016 could be a year of global strength if the US can sustain its momentum.
The market here in Australia is still pricing in a 1.75 per cent floor for the cash rate which, on current trends, is unlikely. There may be one more rate cut (which if course is fully priced in by June) so the trading opportunities seem clear. Continue positioning for yields to rise.
For the Aussie dollar, which is trading around $US0.7800 and 0.7250 against the Euro, there seems more upside. The market is short and just about everyone is bearish. These are usually sure signs that the currency is set for a move higher.
Next week sees the release of the March quarter CPI. Inflation is low with annual headline inflation set to come in at 1.0 per cent with the underlying rate around 2.1 per cent. This very low inflation rate is why the door is open for the RBA to cut once more.
The question for the RBA is not so much this inflation result, but rather the inflation risks in a year or two’s time. The issues for the RBA Board as it meets next month will be the extent to which the budget and government spending will be adding to bottom line GDP, will the global strength be sufficient to put a floor under the commodity price cycle, will the labour market continue to recover and will house prices settle with current interest rate settings and macro-prudential rules?
Some of these unknowns will be answered, at least in part, in the next few weeks. The RBA and Treasury are currently crunching their forecasts for the budget and the Statement on Monetary Policy both of which will be released in a couple of weeks. The run of news should be seeing some upgrades to their growth outlook, even based on current policy settings. Just how much those upside revisions are, how that outlook filters into the inflation outlook and the extent to which the RBA is viewing global conditions, will determine whether or not the interest rate cutting cycle is over.
I suspect it is. The economic and market news of recent weeks has been meaningful.