1) While the RBA has tipped its hat to downside risks in North America, it is comfortable with the growth profile in Europe and, net-net, thinks there are probably more risks to Australia on the upside than downside in the medium term. In many ways the GFC was a blessing for the RBA insofar as it crushed economic growth and price pressures, thereby relieving the RBA of the need to have to increase the cash rate even higher than its 7.25 per cent peak in August 2008;
2) The RBA expects real interest rates in the next 20 years to be higher than those in the last 20 years as a function of the superior expected returns on capital invested in Australia, which is in turn a reflection of our very high leverage to the long-term industrialisation and urbanisation processes underway in China and India;
3) The RBA is praying for a goldilocks outcome in the household sector. They believe that household incomes are set to grow strongly, but a new conservatism following the effects of the GFC will lead to higher savings rates combined with not unreasonable consumption growth. The RBA is worried about a return to pre-GFC consumer savings and spending patterns. The RBA also hopes to see much lower credit growth in this ‘new normal’ as more risk-averse households are less prone to gearing up;
4) In the event that the new consumer conservatism does not persist, and does not represent a permanent change in behaviour, the RBA will be left with no choice but to raise rates higher and more rapidly than it otherwise would to ensure that overall aggregate demand, which will be propelled by a sustained terms of trade boom, does not induce excessively high price pressures;
4) The RBA believes Australia’s economy suffers from very serious infrastructure constraints that pose upside risks to productive capacity and inflation. They believe that both the public and private sectors need to very significantly increase their investments in key infrastructure in order to avoid the much higher interest rates that will be required to curb price pressures in the absence of this capex. The RBA has highlighted the need for much more investment in the supply-side of the housing market, and thinks this argument applies with equal force across the rest of the economy;
5) The RBA is fundamentally bullish on Australia’s growth prospects. While they are uncertain about the near-term hand-over from public to private demand, they are confident about the growth profile of Australia’s key trading partners. Today the RBA has six analysts dedicated to understanding the Chinese economy in comparison to just one for the US. The RBA was worried about China growing too strongly and overshooting with the resultant need for much tighter fiscal and monetary policy. They are delighted with the current slow-down in China’s economy. In contrast to the financial markets, the RBA is not nearly as worried about the ramifications of sub-trend US economic growth for Australia. In many ways, this would be a positive result for the RBA if it reduced the export demand experienced by some of our key trading partners; and
6) Finally, one less well-understood interest rate trigger could be higher than expected retail spending or housing credit growth if this indicated that the aforementioned consumer conservatism was but an ephemeral phenomenon.
With all of the above in mind, enclosed below are the latest economist cash rate forecasts from Reuters.
