Weekend Economist: Hold steady

There will be no surprise moves at the next Reserve Bank board meeting, with the governor expected to reiterate his views that sub-trend growth will extend into the first half of 2014.

The Reserve Bank board meets next week on November 5. For the first time since 2005 the November meeting will not be "live". That is: there is no speculation about any likely move in rates. We are confident that rates will remain on hold following the meeting.

In 2012, there was reasonable expectation around a rate cut, but in the event it was delayed until December. In 2011 rates were cut by 0.25 per cent; increased by 0.25 per cent in both 2010 and 2009; cut by 0.75 per cent in 2008; and raised by 0.25 per cent in 2007 and 2006. Since November 2006, 25 per cent of all moves have occurred in November – remarkable given that only 9 per cent of meetings have been held in November.

However for this November, the Board has made it clear that no imminent move can be expected. Consider the following passage in the October board minutes:" Members agreed that the Bank should again neither close off the possibility of reducing rates further nor signal an imminent intention to reduce them". Of course, we will be interested in the governor's accompanying statement particularly around housing, business and consumer confidence, and the exchange rate.

At the time of the last board meeting, the AUD stood at $US0.94. Since then it has touched $US0.97 but has recently moved back to around $US0.94. He is likely to repeat his comment "a lower level of the currency than seen at present would assist in rebalancing growth in the economy".

On confidence, he is also likely to repeat: "there has been an improvement in indicators of household and business sentiment, though it is too soon to judge how persistent that will be". Recent prints on confidence are not inconsistent with that view. However, he recently noted "at this stage, the available information suggests that broader investment intentions in the business community remain subdued".

There were no specific comments on property prices in the October statement. However in the same recent speech, he did note," My own view, thus far, has been that some rise in housing prices is part of the normal cyclical dynamic....a price rise reversing an earlier decline probably isn't something to complain about too quickly".

In short we are unlikely to receive any real "shocks" in the governor's statement, which will be released after the meeting. It is also important to note that the "easing bias" passage that we noted from the minutes, while included in the last two sets of minutes, has not been used in the governor's statement. We will have to await the minutes on November 19 to see if that "easing bias" language is maintained. Given the Bank's interest in a lower dollar, it would seem to be a sensible strategy to maintain it.

We are firmly in the governor's camp with respect to concerns around housing "bubbles". Australia’s housing sector is showing clear signs of a pick-up although the response to lower interest rates has been slower and more muted than in previous easing cycles. The value of loan approvals is up 17 per cent, led by strengthening investor and ‘upgrader’ demand but offset by weak first home buyer activity, where approvals have actually fallen by around 20 per cent. The total number of approvals is still well below previous peaks.

By state, activity has been considerably stronger in NSW, with conditions more mixed in Western Australia, Victoria, Queensland and South Australia.

This diverse performance is best illustrated by the changes in the six-month annualised price increases across the country. Our measures of the composite of various house price series show that relative to three months ago the momentum has slowed in some cities and exploded in Sydney. Sydney prices are up by 14.7 per cent (six month annualised) compared to 8.2 per cent in July. That compares with Melbourne (4.5 per cent vs 5.1 per cent in July); Perth (6.8 per cent vs 10.5 per cent); Brisbane (1.7 per cent vs 1.2 per cent); and Adelaide (0.2 per cent vs 2.4 per cent).

It should be noted that these gains have only just seen prices nationally return to their 2010 peaks. Average income has risen 10 per cent since then. The recent strength in Sydney also follows Sydney's protracted underperformance relative to the rest of Australia over the last 10 years, (Sydney prices up by 40 per cent compared to around 90 per cent in Melbourne; Brisbane; Adelaide; and 150 per cent in Perth).

We expect Australia’s housing recovery to continue to be a ‘stop-start’ and uneven one. There are headwinds that are yet to fully impact, with some markets facing increases in new dwelling supply (Victoria, Western Australia) and the mining downturn to play through fully to housing (Western Australia, Queensland). More generally, we expect Australian households to continue to exercise balance sheet restraint, with a reluctance to increase debt relative to incomes limiting price growth. We also expect households to remain cautious around job security which will impact, in particular, first home buyers and upgraders.

Later next week on November 8, the Bank will release its Statement on Monetary Policy. The Bank has the opportunity to update its growth and inflation forecasts from the August Statement. Recall that in August, the Bank forecast GDP growth in 2013 at 2.25 per cent and growth to June 2014 at 2.5 per cent. Growth is not expected to return to trend until the second half of calendar 2014 with a forecast of 2.5 per cent–3.5 per cent for the year to December.

Since August we have seen a print of 0.6 per cent for growth in the June quarter and a slight upward revision (0.4 per cent to 0.5 per cent) for the March quarter. It is likely the Bank will see growth in the second half of 2013 staying around that below trend 2.5 per cent annualised pace and therefore confirm its 2.25 per cent forecast for 2013.

If it maintains its forecast of 2.5 per cent for the year to June 2014, it will be confirming its view that in the first half of 2014 growth will continue to be stuck at that, below trend, 2.5 per cent annual pace. By maintaining its 3 per cent forecast for growth to December 2014, it will be implying an expectation that the growth pace in the second half of 2014 will lift to a 3.6 per cent annualised pace. That is a big call – the growth pace lifting from a 2.5 per cent annualised pace in the first half of 2014 to a 3.6 per cent annualised pace in the second half. Our forecast is for a more reasonable 3 per cent annualised pace in the second half of next year. Nevertheless we expect the Bank will maintain a somewhat upbeat outlook.

In short, we do not expect it to change its view that the economy is currently growing at a sub-trend pace and that is expected to extend into the first half of 2014 with the expectation of a marked lift to substantially above trend growth in the second half. We expect that over the course of the next few months it will have to temper that bullish view on the second half of 2014 and see the need for more policy support to arrest the current sub-trend growth momentum.

Bill Evans is Westpac's chief economist.

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