Economic Update - April 2024
Central banks have been wishin’ and hopin’ and thinkin’ and prayin' that inflation would keep falling all the way back to their 2% target. Sure, the last mile will be the hardest they said. Well the US and Australia have just hit inflation speed bumps. A soft landing still looks likely but a minority worry about the threat of stagflation and the RBA and Fed having to raise rates.
What happened in Australia?
With no RBA meeting in April, all eyes turned to the release of the quarterly inflation report for March. Recent Inflation stickiness in the US seemed to have the local market worried. They were thus hoping for another good decrease in inflation to increase the chance of rate cuts this year. They were slightly disappointed.
Annual inflation continued its fall, from 4.1% in the December quarter to 3.6% in March. However, inflation increased on a quarterly basis from 0.6% to 1% (see chart below). Both results were also slightly higher than expected. Further, monthly inflation for March increased slightly on an annual basis. Commentators are now less sanguine about rate cuts, giving a rate cut before August less than a 4% chance.
However, perhaps the markets are being a little over-sensitive? The main contributor to inflation in the quarter was the once-a-year increase in education costs which happened to increase by its highest level in 12 years. Further, services inflation continues to fall, from 4.6% in December to 4.3% in March - a welcome result for the RBA.
A recent research note by the RBA also shows a significant easing in the labour market since October 2022 (the movement of the orange to blue dots in the chart below).
You can understand why the market is keen for a cut sooner than later. Business turnover continues to look threadbare (see chart below), with mining the big contributor this month.
What happened around the world?
USA
Stickier than expected March inflation fed into fears from the higher than forecast February PCE result (released in late March) and brought the stock market down from its recent highs. Treasury yields also continued to climb as markets came to terms with rates being “higher for longer”.
However, the market took a little bit of comfort from a March PCE result that was inline with forecasts (released April 26). Treasury yields also fell on the result (see chart below).
A small but growing minority are worried that the stickiness of inflation is being underestimated (like bubblegum in a child’s hair) and that unless the Federal Reserve swings from dove to hawk mode and increases rates, the US could be looking at stagflation. According to the CME rate watch chart, the probability of 25 bps or more in rate cuts by September have decreased from around 61% on 28 March to around 15% on April 26. While the probability of a 25 bps hike by September has increased from 6.5% to 38% for those same dates.
Softer than expected GDP growth for the March quarter also plays into the stagflation narrative. Annualised GDP growth compared to the previous quarter fell from 3.4% in the December quarter to 1.6% in the March quarter. This was the slowest rate since the March quarter in 2022 when Omicron hit (see chart below).
“It’s one thing to have moderate inflation with above-average growth, it’s another thing to have stubborn inflation and stifled growth,” Bret Kenwell, U.S. investment analyst at eToro.
China
China’s long-term policy of increasing high-tech exports is reaping short-term rewards with investment in factories and exports powering a strong March quarter GDP result. GDP grew 5.3% on an annual basis beating the expected 4.6%. A survey of Bloomberg economists have since raised their China GDP forecast for 2024 from 4.6% to 4.8%.
However, the strong exports confirms the fears of some in the US and EU that China’s plan to export its way into growth rather than courting domestic demand is getting into gear. While increased Chinese exports are good for global inflation, US and EU policymakers fear the impact on their homegrown EV, solar panel, and other high-tech industries.
US treasury secretary Janet Yellen visited China in early April and delivered a warning on trade. This has since been echoed by US secretary of state Antony Blinken on his recent visit. Elon Musk even made a recent surprise visit to China as Tesla comes to terms with rising sales by Chinese EV maker BYD.
The Chinese real estate market and downbeat consumers remain a concern. Many commentators are still calling for the government to provide more stimulus to the domestic market. The chart below shows how industrial production has outperformed since the end of the pandemic while consumer retail spending has underwhelmed.
EU
Inflation keeps falling in the EU, down from 2.6% in February to 2.4% in March on an annual basis.
The ECB decided to keep rates on hold at their meeting in April but everything seems to be moving towards a rate cut soon.
“We are observing a disinflationary process that is moving according to our expectations, … if we don’t have a major shock in development, we are heading towards a moment where we have to moderate the restrictive monetary policy,” Christine Lagarde, ECB president.
With the EU economy languishing, a rate cut would provide a welcome boost. Construction and industrial production decreased in February on an annual basis by 0.6% and 5.4% respectively.
Japan
Its hands off at the moment with the BoJ as the yen fell to its lowest levels against the USD since March 1990 (see chart below). Given interventions in the past, many commentators are expecting the BoJ to step in at some point. Governor Haruhiko Ueda indicated that the BoJ would step in if the impact on the “economy and prices became too big to ignore
UK
After the sideways scare in January, inflation decreased for the second consecutive month in March, from 3.4% in February to 3.2% on an annual basis. Goods inflation is now down to 0.9% on an annual basis. Services inflation, however, remains high at 6% and will need to be watched. The 3-month average for Average Weekly Earnings decreased slightly from 6.1% in January to 6% in February continuing the downward trend from its recent peak in May 2023 (nominal regular pay).
New Zealand
The Reserve Bank of New Zealand kept the cash rate steady in April. Inflation increased slightly on a quarterly basis in the March quarter (0.5% to 0.6%) but decreased on an annual basis from 4.7% in the December quarter to 4% in the March quarter (see chart below). While economic growth is weak, it is too early for the RBNZ to ease monetary policy.