Economic Update - October 2024

While the world holds its collective breath for the outcome of the US election, the RBA finds itself stuck with sticky service inflation.

What happened in Australia?

The RBA just can’t win. While inflation has fallen from 3.8% in the June quarter to 2.8% in September on an annual basis (see chart below), a look behind the numbers reveals that much of the decrease was due to temporary government assistance with electricity costs and the falling oil price. As a result, the RBA’s preferred measure of trimmed inflation only fell from 4% to 3.5%.

Further, and more concerningly, is the rise in services inflation for the second quarter in a row: from 4.3% in March to 4.5% in June and 4.6% in September on an annual basis. In contrast, goods inflation fell from 3.1% in March to 1.4% in September. Sticky services.

At the last RBA Board Meeting Media Conference, the governor assured us that services inflation would gradually fall over the next year or so. Looking behind the service inflation figures, we see that the only service category where inflation has fallen into the RBA’s target 2 to 3% band over the last year is restaurant meals. All the other categories are well above the band and have only decreased slightly over the past year (see chart below). Education is the exception as it is still increasing. Together these categories represent around 22% of the CPI basket. It is a sizable chunk that must keep Governor Bullock awake at night.

One of the key drivers behind the sticky service inflation is a still strong labour market. Some steam has gone out of the market as can be seen in falling vacancies. But the unemployment rate has barely moved above the level it was when the RBA began raising rates in May 2022 (see chart below). A rising participation rate also suggests that the labour market is in rude health.

“I’m slightly surprised employment growth has been so strong.” Andrew Huaser, Deputy Governor, RBA.

All this suggests that inflation is going to take a while to come down and maybe longer than the RBA has forecast.

What happened around the world?

USA

By the time you read this, the US presidential election will have ended and the whole world, including Fed Reserve Chairperson Jerome Powell, will have a much better idea about where the US economy is heading in the near term.

Both candidates will likely add to the US’s growing deficit but a Trump presidency may reignite inflation if he goes ahead with his tariff proposals.

Putting politics aside, inflation continues to fall in the US. PCE fell to 2.1% on an annual basis while core PCE fell to 2.7% (see chart below).

The US labour market also continues to cool with non-farm payrolls increasing at its lowest level since 2020, with the impact of the two recent hurricanes being felt, and downward revisions to the previous two months (see chart below).

Given this data, the market expects the Fed to cut rates by 25 bps at each of its last two meetings this year. The CME FedWatch Tool puts the probability of a 50 bp change in the Fed Funds rate by the end of the year at 81.7%.

Despite this, US treasury yields have increased over the month but this reflects uncertainty over the US election rather than uncertainty over the economy.

China

September GDP surprised on the upside with 4.6% on an annual basis and 4.8% for the first 9 months of the year. It looks like the government’s growth target of 5% may be met after all.

The official manufacturing PMI also surprised on the upside and hit positive territory for the first time since April.

Despite these good results, the challenges from the property market and weak domestic consumption remain. Chinese exporters are also keenly watching the results of the US election to see if there will be another round of the Trump trade war.

Chinese stocks fell in early October but have recovered somewhat as the government announced another series of stimulus measures.

Some believe that China has bottomed out while others are continuing to predict Japanese-style deflation and low growth.

EU

The ECB cut interest rates by another 25 bps in October. Inflation fell from 2.1% in August to 1.7% in September on an annual basis (see chart below). While the ECB expects inflation to tick back up over the next few months, it believes that it will continue to fall over the next year and is under control.

Euro area GDP grew by 0.4% in the September quarter or 0.9% on an annual basis. This is up from 0.5% and 0.6% in the previous two quarters.

Japan

Shigeru Ishiba succeeded the unpopular Fumio Kishida as prime minister on 1 October. He wasted little time in warning the Bank of Japan against raising rates while Japan’s economic recovery remains fragile. In a subsequent speech Governor Ueda focused on the economic uncertainties abroad and the need for the BOJ to remain watchful.

With inflation falling from 3% in August to 2.5% in September on an annual basis, the BOJ decided to keep rates on hold at its October meeting. 

UK

Despite the political troubles of Keir Stammer, the UK economy continues to trend in the right direction. Inflation fell from 2.2% in August to 1.7% in September. Falling fuel costs were the biggest contributor. Core CPI (excluding food, energy, alcohol, and tobacco) fell from 3.6% in August to 3.2% in September.

New Zealand

With the New Zealand economy slowing and inflation under control, the Reserve Bank of New Zealand cut the official interest rate by 50 bps in October to 4.75%.

Inflation fell from 3.3% in the June quarter to 2.2% in the September quarter on an annual basis.

“The New Zealand economy is now in a position of excess capacity, encouraging price- and wage-setting to adjust to a low-inflation economy.” RBNZ Monetary Policy Review media release, 9 October 2024.

What this means for Australian Private Debt

With inflation set to remain higher in Australia than elsewhere, Australian interest rates will likely remain higher in the medium term. Thus Australian private debt will remain very attractive.