What a week!
The RBA’s Governor Lowe appeared on the ABC’s The 730 Report and said inflation will likely get to 7% by the end of the year.
He also explained that headline inflation is now expected to reach 7% and that it was reasonable to expect the cash rate would get to 2.5% at some time.
This was his first appearance on television for some time and in my mind his intention was to dampen consumer confidence in an effort to slow inflation.
And it worked...
Consumer confidence as measured by ANZ-Roy Morgan has fallen to its lowest level since April 2020.
When the early stages of the COVID-19 pandemic are excluded, consumer confidence is now at a 31-year low.
And if you think about it… that's exactly what the Reserve Bank wants - it wants us to slow down our spending, doesn't it?
If the RBA can stifle demand, then it may not have to raise rates as much as some commentators suggest.
During the last week we also had a big jump in the minimum wage, a 75 bp rate increase from the US Fed and another strong employment report.
In this week's ANZ Macro Weekly report, economists David Plank and Felicity Emmett, gave some insightful commentary.
Here's what they had to say...
ANZ still think the RBA will go by 50bp at its July meeting (rather than 25 or 75), but Tuesday’s big day of RBA events will have some impact on our thinking – even if recent RBA communication has not been very helpful as a guide for the next meeting.
ANZ see the economy growing 3% in 2022, despite higher interest rates and 7% inflation.
An important element of this is the expectation that consumers will keep spending.
This spending is underpinned by very low unemployment, accelerating wages growth (with this week’s increase in the minimum wage confirming a key part of our forecasts), and the large pool of savings that households have accumulated.
More government stimulus also helps.
But Wednesday’s ANZ-Roy Morgan Australian Consumer Confidence survey showed confidence falling to 80.
Putting aside the pandemic, this is a level not seen since the 1991 recession and it poses a downside risk to spending (Chart of the Week).
Consumption was strong in Q1 despite weak sentiment, and ANZ data show it is holding up in Q2.
There are unprecedented divergences between the factors that influence consumer spending, making us confident (pun intended) it will hold up.
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Even if spending does weaken, it is unlikely to stop the RBA from taking interest rates to a neutral setting of a bit over 2%, but it may cap the eventual peak.
So we are watching the data like a hawk.
Chart of the week
Conflicting influences on consumer sentiment and spending
In their report the ANZ pointed out the surprising finding of the extent to which real wages growth has diverged from the strength in employment.
They explain...
This divergence is impacting consumer sentiment.
We usually see consumer confidence being supported by a strong labour market (Figure 2), but this is not the case this time around.
Despite the fall in unemployment, confidence has fallen.
The explanation appears to lie in negative real wages growth.
Falling real wages should also show up in soft household consumption.
That ii so far hasn’t may reflect households’ very high average saving rate and cash reserves built up over the past two years.
These allow households to continue spending, even as nominal wages growth is lagging inflation.
The economists concluded...
These unusual influences help explain, in our view, why household spending is holding up despite the weakness in sentiment.
So long as unemployment remains very low, we think this will likely remain the case.
A big dollop of government money in Q3 will also help.
There is a risk that consumers decide to act on how they are feeling.
So we are vigilant for any evidence that spending is turning down.
This won’t stop the RBA from taking interest rates to a neutral setting of a bit over 2%, but it may cap the eventual peak at a lower level than the 3.1% we currently expect.
This report was provided by the team of Australia and New Zealand Banking Group Limited (ANZ).
