Diminishing returns for the Reserve?

The Reserve Bank board believes there is “mounting evidence that monetary policy was supporting activity in interest-sensitive sectors and asset values”, but growth will remain below trend in 2014 and the exchange rate remains “uncomfortably high”.

Today’s minutes echoed a sentiment the bank has articulated over the past few months, including at its November 5 meeting, when it left the cash rate unchanged but acknowledged that it would not “close off the possibility of reducing [the cash rate] further should that be appropriate to support sustainable growth in economic activity”.

Overall, the Reserve Bank’s assessment of domestic and international economic conditions is largely identical to the analysis in its Statement on Monetary Policy (The RBA’s crystal ball is clear as mud, November 8). The Australian economy is expected to expand at a below trend pace in 2014 before picking up a bit in 2015. Growth in the near-term will be constrained by a decline in mining investment, an elevated exchange rate and weak public demand. 

The Reserve once again noted that the Australian dollar, while below its level earlier in the year, remains uncomfortably high. It is the same language used in the statement and by governor Glenn Stevens during a speech in late October. The Australian dollar has declined by almost 2.5 per cent against the US dollar and 1.25 per cent on a trade-weighted basis since that speech. The Australian dollar rose slightly following the release of the bank’s minutes.

But I have to wonder whether there are diminishing returns on the Reserve Bank’s communication. If you accept the premise that the rebalancing of the Australian economy is reliant on the exchange rate depreciating significantly, and you should, then it stands to reason that the bank should be doing more on exchange rates. Whether that results in stronger rhetoric in its public statements or speeches, or direct intervention in the market, remains to be seen. But it should happen.

The minutes note that the outlook for the labour market over the next two years is slightly weaker than at the time of the August statement. The bank expects employment growth to be below population growth in the near term and for the unemployment rate to continue to increase for the next year or so. Since the meeting and the November statement, we have received information on the labour market in October (The jobs market has its work cut out, November 7). The unemployment rate rose slightly in October but it is the participation rate that should be the centre of attention and that points to a fairly weak labour market.

The Reserve Bank noted that conditions in the housing market continued to strengthen. Dwelling prices are above their late 2010 peak in nominal terms, though still below that peak in real terms. Housing turnover and loan approvals are on the rise, although first home owners have not jumped on the bandwagon (The grant rotting housing from the inside, November 13). High prices have provided an impetus for dwelling investment, with residential building approvals on the improve.

The minutes made special mention of the housing market in its conclusion. The board judged that ‘it was appropriate to leave the cash rate unchanged while continuing to gauge the effects, including in the housing market, of the substantial degree of monetary policy stimulus that had been put in place over the past two years.’ It seems that there is at least some concern within the bank’s hallways regarding the state of the housing market.

Personally I don’t see a huge amount of upside for Australian dwelling prices, on the basis that I expect household income growth to be soft over the next few years – and particularly given first home buyers have remained cautious. But it is still somewhat reassuring that the Reserve is having the discussion, even if most of its concerns should focus on the systemic role that housing plays in the Australian economy.

On balance, the minutes did not add much to what we already knew from the Statement on Monetary Policy but that is inevitable during months when the statement is released. Since the meeting there has been very little new data that could change the view that the economy will grow at a below trend pace in the near-term. Unless new data changes the narrative somewhat the Reserve will leave rates unchanged at its December meeting.