Why Bill Evans got it wrong

Michael Pascoe: You were wrong on your Reserve Bank prediction. Why?
Bill Evans: Well I thought that they had time. Inflation’s been very slow-moving over the past couple of years. It’s been pretty stable at 2.5%. Given that that’s their fundamental objective and there’s still considerable uncertainty out there '” with regard to the fragility of the consumer, with regard to the wage outlook '” I thought that they had time to wait to assess in particular the impact of higher petrol prices and just to see whether the early signs we’ve seen of a resurgence in the consumer is sustainable, because last year we started to get confident about the consumer. Higher petrol prices really knocked them for six in the second half of last year.

Is the Reserve Bank wrong?

We’ll see. The financial markets certainly don’t believe they were wrong because the financial markets have already priced in yet another rate hike '” not immediately, but some time in the second half of this year '” and they certainly were the ones that picked this one coming well before the economics community.

Well how does it feel getting it wrong?

Oh look, I’ve been doing this job for about 15 years. I’ve got a lot more right than I’ve had wrong and so I feel very bad for my customers. All I can do now is look forward and try and add value at the next opportunity and I think there is value out there because I don’t think that the 100% probability of another rate hike is on the cards.

What are the risks from here? What are the key things you’ll be looking for?

It will be the sustainability of consumer spending. It will be whether we get any pass-through from the higher petrol prices and the higher commodity prices to inflation and whether businesses start to pass those price increases on. I feel very confident they won’t. That’s been a global trend and I don’t see why Australia’s going to be any different.

It will be also whether we see any pass-through to wages, and we’ve actually started to see wages slow down and of course the labour market will be critical as well. If we start to see the unemployment rate falling below 5% then I’d certainly have to change my opinion. Sustainably below 5% I’d have to change my opinion and say, yes, we’re in an inflationary environment, but what you have to bear in mind is that we are the only country, apart from New Zealand that is sitting at interest rates well above neutral now.

What’s changed in the past month or so for the Reserve Bank to make this decision aside from higher petrol prices?

They have been '¦ they have had this tightening bias consistently for the past few years and it’s mainly been because of the strength of the world economy. They have been unable to deliver on that tightening bias because the inflation numbers have just been so well behaved. Effectively, they’ve over-estimated inflation for an extended period and what’s happened this time is that they got a little bit of a glimmer of higher inflation. The world economy got stronger and so that’s the opportunity to move.

So this is the Reserve Bank governor, Ian Macfarlane, saying everything’s going really well, the world’s a great place, Australia is going gangbusters?

Well I think it is. I think that he’s on record as saying that the most important lead indicator for how Australia’s going to be faring is how the world is faring. And that’s why we had that situation back in 2003 when the world was fearing deflation and he was flirting with cutting interest rates when housing credit growth was running around 21%. That is an example of the emphasis that he does give to the strength of the world economy and we’ve seen it again today.

Another aspect of this is that it will somewhat confirm the market’s suspicion that the Reserve Bank unofficially/officially leaks to Alan Mitchell at the Australian Financial Review. Is that an appropriate way to keep markets informed?

Oh look I really couldn’t comment on that one.

It must be annoying though for chief economists to see the market being led by a journalist.

I think the market was led by a lot of things and I think that if you look at market pricing, market pricing really priced in about a 90% probability of a rate hike around the middle of April and we didn’t really see too much of a move beyond that even after the inflation numbers. So the market was confident about a rate hike well before we saw any press analysis or any movement on inflation and the market got this one right, very succinctly.