The RBA hit the “pause” button again in July citing economic uncertainty. The official cash rate remains at 4.10 percent. This is only the second pause since the RBA began raising interest rates in April last year. It could be interpreted as a sign that inflation is under control or that dark clouds are forming on the Australian economic horizon and the RBA does not want to put a further brake on the economy.

What the RBA said

“The higher interest rates are working to establish a more sustainable balance between supply and demand in the economy and will continue to do so. In light of this and the uncertainty surrounding the economic outlook, the Board decided to hold interest rates steady this month.”

“Growth in the Australian economy has slowed and conditions in the labour market have eased, although they remain very tight.”

“A significant source of uncertainty continues to be the outlook for household consumption. The combination of higher interest rates and cost-of-living pressures is leading to a substantial slowing in household spending.”

Statement by Philip Lowe, Governor: Monetary Policy Decision, 4 July 2023.

https://www.rba.gov.au/media-releases/2023/mr-23-16.html

What to expect next

A shifting of risks

Central bankers sweat the details. They also consider themselves masters of nuance. RBA watchers were thus quick to pick up on the subtle shift in focus in July’s Monetary Policy Statement.

While the commitment to restoring inflation to the 2-3 percent target remains, there is more of an emphasis on the “economic uncertainty” faced by the Australian economy. With slowing consumer spending still the main cause of concern followed by global developments.

According to the Westpac-Melbourne Institute consumer index, consumer sentiment has been at recession levels for over a year (see chart below).

Westpac-Melbourne Institute Consumer Sentiment Index

But now consumer discretionary spending growth is approaching negative levels (see chart below). Discretionary spending only increased by 0.4% on an annual basis in April. Compare this with April 2022, when the increase was 14%. Further, retail turnover increased just 0.7 percent in May on a monthly basis and 4.2 percent on an annual basis.

As consumer spending continues to slow this will slow Australia’s general economic growth. Consumer spending is the main fuel of the domestic economic engine. As consumers spend less, firm’s inventories will build, and they will eventually begin to cut production.

The labour market is the key to what happens next

The ultimate bellwether of the Australian economy will be a rising unemployment rate. Slowing consumption and production, if sustained, will eventually lead to job lay-offs. When that happens, unemployment will rise, which will then result in a further slowdown in consumer spending. A vicious cycle can ensue.

Given the RBA’s dual mandate of stable inflation and full employment (whatever that currently means), it will need to step in before unemployment gets out of control. It will need to press the button on more pauses or even pull the lever to cut rates. If Dr Lowe was already feeling the political pressure, he ain’t felt nothing like the pressure that will build if unemployment rises. Rather than Assistant Governor Michele Bullock opining on full employment, Dr. Lowe will be explaining himself to the House Economics Committee.

Currently, unemployment remains at near record lows and even decreased slightly in May. However, there are signs that the labour market is not as tight as it once was. For example, job vacancies fell by -2.2 percent in May on a quarterly basis. But, vacancies remain high and vacancies would have to fall substantially before unemployment starts to climb.

At the moment, the bellwether of unemployment is not showing a deteriorating labour market, but the RBA is no doubt watching the labour market even more closely for any sign of deterioration. Pausing gives the RBA space to do so without increasing the risk of putting further pressure on the labour market.

Impact of the rate increase on the Australian Private Debt Market

The RBA’s pause and the lack of a turning point in the Australian economy, means it is steady as it goes for the Australian Private Debt market. Investors can continue to enjoy high floating rates with any downsides from a slowing economy are still beyond the short-term.