The RBA paused again as the economy slowed. While inflation “remains too high” and the labour market is tight, the RBA talked about “below-trend” economic growth, weak household consumption, and weak dwelling investment for the first time in this cycle. The tighter financial conditions are dragging on the economy and inflation is on the way down, but there is still time to go before we can talk about a soft landing. Governor Philip Lowe won’t be around for it though as his seven-year term ends in September. He will be replaced by Assistant Governor Michele Bullock.

What the RBA said

“Inflation in Australia is declining but is still too high at 6 per cent. Goods price inflation has eased, but the prices of many services are rising briskly. Rent inflation is also elevated.”

“Services price inflation has been surprisingly persistent overseas and the same could occur in Australia.”

“The Australian economy is experiencing a period of below-trend growth and this is expected to continue for a while. Household consumption growth is weak, as is dwelling investment.”

“Some further tightening of monetary policy may be required to ensure that inflation returns to target in a reasonable timeframe, but that will depend upon the data and the evolving assessment of risks.”

Statement by Philip Lowe, Governor: Monetary Policy Decision, 1 August 2023.

https://www.rba.gov.au/media-releases/2023/mr-23-19.html

What to expect next

On the way down

The RBA’s talk of inflation peaking has now turned to “declining inflation”. Q2 inflation was released on 26 July and shows inflation falling from 7 percent in Q1 to 6 percent in Q2 on an annual basis. The quarterly change was 0.8 percent, the smallest increase since Q3 2021 (see chart below). 

Consumer spending is also on its way down with the -1.1 percent fall in April, on a monthly basis, followed by a tiny 0.4 percent rise in May. Retail turnover fell -0.8 percent in June on a monthly basis.

“Retail turnover fell sharply in June due to weaker than usual spending on end of financial year sales. This comes as cost-of-living pressures continued to weigh on consumer spending.” Ben Dorber, ABS head of retail statistics.

Dwelling approvals fell -7.7 percent in June on a monthly basis. While the series is volatile, the chart below shows we are in a downward trend in house and overall approvals.

Looking at you, services and wages

However, the RBA is keeping an eye on sticky services inflation and wages. If these were to remain high, then the RBA could be forced to raise rates further, even with slowing consumer spending and dwelling approvals.

Services inflation increased by 6.3 percent in Q2, its highest level since 2001, which was just after the introduction of the GST. It is now above goods inflation which has been declining since December (see chart below).

A large part of services inflation is wages. The chart below shows that most service jobs have had wage increases approaching 10 percent on an annual basis. Some services saw decreases in June, but many, such as education, financial services, and IT posted strong increases for the month. These increases will need to moderate if service inflation is to fall.

Labour market not budging (for now)

Of course, wages in the service sector will not moderate if the labour market remains tight. And as I said last month, I believe an uptick in unemployment is the key to ending this interest rate cycle. Although increasingly, it is more important to the wages story than the consumer spending story as higher mortgage payments and rents are squeezing consumers.

Unemployment was unchanged in June at 3.5 percent. Further, the participation rate (working-age people in or looking for work) and hours worked are at ten year highs (see chart below). The labour market remains tight.

Impact of the rate increase on the Australian Private Debt Market

A slowing economy means Private Debt fund managers and investors should maintain their alert but not alarmed stance. A slowing economy is no surprise, it is part of the RBA’s plan. The current trajectory suggests a soft landing, which will see the industry in good stead.