Despite surging commodity prices in China – which must be real and represent demand growth and price increases, right? – Aussie core inflation slowed to the weakest on record as headline prices unexpectedly fell last quarter (CPI -0.2%). RBA Rate-cut odds tripled instantly sending AUD down over 1.2% (its biggest drop in 2 months). Perhaps, just perhaps, that collossal credit injection in Q1 via China did not make it into the AsiaPac economy after all and merely fueled a speculative frenzy in commodities that merely “looks” like a recovery?
The Reserve Bank of Australia looks at two core inflation measures — trimmed mean and weighted median — and Wednesday’s report showed:
- Trimmed mean CPI rose 0.2% QoQ vs. median forecast of 0.5%
- Weighted median CPI gained 0.1% QoQ vs. median forecast of 0.5%
- CPI fell 0.2%, first decline since final quarter of 2008 vs. median forecast 0.2% rise
This does not look like a recovering Chinese economy is helping…
Which drove traders to bet on a rate-cut…
- *RBA MAY RATE CUT ODDS RISE TO 40% FROM 14% YDAY, FUTURES SHOW
“A pre-emptive May cut is surely now a real possibility,” said Gareth Berry, a foreign-exchange and rates strategist in Singapore at Macquarie Bank Ltd. “At the latest, an August cut is now inevitable. That spells the end of this three-month old Australian dollar rebound, and the downtrend can now resume in earnest.”
“Whereas the RBA was previously thinking that low inflation would allow it to cut interest rates if demand faltered, it is now clear that low inflation itself is the problem,” said Paul Dales, chief economist for Australia and New Zealand at Capital Economics. “An inflation-targeting bank like the RBA can’t ignore such a big undershoot of underlying inflation.”
As Goldman notes,
We believe the RBA will now be forced to lower their inflation forecasts in the May Statement of Monetary Policy, not just due to the low CPI data for 1Q16 but also in response to the rise in the A$ through 2016 which will further challenge the RBA’s assessment that inflation will accelerate to well within the target band due to rising tradeable inflation. From our perspective the inflation data is key evidence that excess capacity exists in both product and labour markets and this is supported by private sector wages expanding at record lows and the recent erosion of surveyed measures of inflation expectations (see here). In concert with our analysis that the reported strength in GDP growth in 4Q15 overstates the underlying pulse of the domestic economy (see here) and evidence that economic activity is slowing in 2016 across a broad range of indicators (including investment intentions, retail sales, finance approvals, tourist arrivals, housing turnover, consumer confidence).
Moreover, the RBA clearly established the criteria required for them to act upon their easing bias; weak inflation, slowing employment growth and a currency at a level that challenges the RBA assumptions of future economic growth. On all three criteria the evidence supports the case to ease policy in May. Should the RBA choose to remain on hold in May the RBA will be more than aware that the calendar quickly becomes crowded by a likely election campaign through May to early July (the RBA’s July meeting is just 3 days post the likely date of the federal election) and the leadership transition at the RBA scheduled for September. History has shown that since 1990 the RBA has not been overly influenced by political and leadership events. The RBA has eased on 3 occasions and hiked once in the month of or the month prior to a federal election and Governor Stevens continued a tightening cycle soon after his appointment to Governor. Nevertheless, it would seem lmore likely that the next widow for the RBA would be late in 2016.
While it is still possible that the RBA holds out hope that the rally in commodity prices might continue and that the US Federal Reserve turns significantly more hawkish, we continue to believe that the course of least regret is for the RBA to follow its inflation targeting framework and ease in May, where we continue to forecast a 25bp reduction. Nevertheless, following the firming of the possibility of an early federal election in July we have decided to move our final forecast rate cut to November 2016 (previously July). Our A$ forecast is under review.
* * *
Makes one wonder if any of this bounce in Chinese industrial metals is real at all…
Charts: Bloomberg
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