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Another half-century knock at the Lowe Cricket Ground

The Governor Lowe walk

Seems like we’re on track for another 50bps widely expected rate hike.
 
Who let the Central Banks out?
 
What a month it was! With the world still in chaos, China slowly coming out of lockdown, the EU squeezing Russia with commodity-imposed sanctions and inflation still very high in certain economies, the Central Banks came out to play.
 
They really flexed their muscles and dominated the scene with their very aggressive and unexpected rate hikes which continued to stimulate fears of a global recession. The US cranked it up a notch to 75bps, the Swiss up with a very unexpected 50bps and of course, our local sweetheart the RBA surprised the whole market with the first of many hooks of 50bps (market consensus was 25bps) in an attempt to catch the highly accelerating inflation train and get “ahead of the curve”.
 
We also saw Governor Lowe give a speech to the public about the economic outlook and monetary policy in Sydney a week ago. These were a few key highlights from the meeting:
 
- The Board expects to discuss 25bps or 50bps at July’s board meeting, similar to the June meeting.
- The Board agreed there was a material risk of inflation if they maintained around 25bps.
- Board felt 50bps was the ideal option, given that the cash rate was still historically low.
- Didn’t expect the rate increase to affect most of the market as consumers have saved in excess of $250b in personal savings, especially for mortgages.
- Not expecting a recession in AUS, fundamentals are still very strong including record employment numbers and a 48-year low unemployment rate of 3.9%.
- The Board expect inflation to be within the 2-3% target range over the next couple of years.
- Market pricing of 4% cash rate EOY is a bit unreasonable and unlikely.
 
Let’s talk about inflation baby!
 
The Governor also forecasted that inflation would peak around the 7% mark. Currently, our headline inflation number is 5.1% with a trimmed-mean CPI of 3.7%. We are seeing that the US inflation number was slowly creeping up to the 8.6% figure, including the EU’s more recent release of the same figure and the UK topping off the list with record 9.1% annual inflation. So, therefore, we could potentially expect a similar pattern with AUS inflation to creep up a bit more before the rate hikes start to kick in and cool inflation.
 
The next 2 CPI prints are scheduled to be released on 27th July and 26th October 2022 for Q2 and Q3 respectively and therefore will significantly dictate whether the following months will carry a 25bps or 50bps hike. I don’t believe there is sufficient justification to allow a 75bps hike unless inflation just skyrockets. We need to be mindful, that the RBA has 2 primary roles, to keep unemployment low and also to tackle inflation. All other factors are secondary. “Woah, we’re halfway there” as Bon Jovi said since we’ve tackled the unemployment aspect.
 
I can see clearly now the rates have gone… up
 
Based on the CPI releases above and the current inflation problem, I am of the view that the RBA will seek to conduct a rate rise bonanza per the following in July, August, and September, pausing in October, then November and December meetings to bring the cash rate to 2.35% for this cycle. Close to the 2.5% mark the Governor expected.
 
July +50bps
August +25bps
September +25bps
October Hold
November +25bps
December +25bps
 
Of course, the RBA will take a well-deserved break from hiking in January (where there is no meeting) and will monitor the progress/impacts from the first cycle during Q1 '23, eagerly anticipating the next CPI figures release in Apr ‘23 for Q1. The RBA will react again in May ‘23 meeting for another potential 25bps. Potentially one more in Q3 to bring the terminal cash rate to 2.75%. Aggressive tightening of more than 25bps could severely contract the economy giving rise to fears of an AUS recession so the RBA will need to slowly release the hikes to allow the economy to digest and absorb. 
 
It is also key to remember that the RBA does meet monthly, as opposed to other central banks like the Fed which meet every 6 weeks, therefore the RBA has the advantage to digest and react sooner, giving more of a reason to increase by 25bps after front loading. Once we get a better picture of the July 22 CPI print, we will be able to reassess the situation. However, the risk is to the upside, where the RBA will most likely throw in a special surprise and catch most off guard.
 
Jump in, strap on your seatbelts and get ready for a bumpy ride!


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