16 October 2020

Insights

RBA Talks Impact

Financial market participants live for Central Bank speeches and press releases looking for any signs of prospective policy changes. Central Bankers do not like the shock of an economic surprise and (most) don’t like to deliver a policy surprise so they work on being opaquely transparent (if that is possible).They want a degree of certainty on the path of policy to give business clarity on borrowing costs. In short, they try to give the best forward guidance they can without specifically saying whether they will change policy. Yet a change of policy is all most care about and people read and listen to the releases with that focus. As an aside I don’t know if generally they are in favour of surprise birthday parties, but I imagine not.

Market reaction to the RBA Governors speech yesterday was that it confirmed a likely easing at the November meeting although in exactly what form is still up for a little debate. Given financial markets had already moved on the Deputy Governors recent speech the reaction in some of the markets was that Dr Lowe just confirmed what by and large was priced. However, I believe he did more than that, he actually broke down the impact of the recession on different cohorts and then left us with the view more policy response is needed.

Australian 10-year bond yields rallied substantially as the RBA seems genuinely concerned Australian yields are too high when compared to other developed nations.

Source: Refinitiv

Why ease?

Does the Government need lower rates to fund the deficit? No in fact there may be a tipping point where investors balk on lending Australia money for 10 years.

Does the private sector need marginally lower rates? Rates out to 3 years that set lending rates are already closer to 10 bps so no but they won’t complain.

Does the flow of credit need lower rates? Given the yet to be legislated but proposed lending reforms probably not but it should help.

Does the RBA want to reduce the amount of cash banks have on deposit with them? Yes as there is already too much cash in the system.

Have households substantially increased savings ratios due to the unprecented levels of fiscal income support? Yes to quote the RBA Governor.

“One of the many unique features of this recession is that it has been associated with a big increase in household saving. Normally in a recession, income falls, and many people draw on their savings to get through the hard times. But in the June quarter, when fears about the pandemic were at their peak, the household saving rate surged to 20 per cent, the highest in almost 50 years.”

Does business have large enough cash buffer? The RBA suggests so.

Have we seen a substantial increase in business failures? No.

So why cut? Because the RBA has an extremely specific charter and they fear the charts above are the calm before the fiscal cliff storm.

A Stability of the Currency

Yes, they are hoping for a slightly lower AUD from their possible easing but the currency is not overvalued so this may well be preemptive. The RBA were very unhappy when the AUD became very overvalued (>1) post the GFC. The blue circle on the chart.

Source: Bloomberg, ANZ

B Full employment

Australia is now a long way from full employment which I will broadly take to be less than 6%, the Governments fiscal swing target.

C In times like these it’s "the economic prosperity and welfare of the people of Australia” that counts and that means ALL the people

And to quote the Deputy Governor once again.

“Our role is to provide support for the economy in aggregate and it's up to others, most obviously the government, to make the decision as to what is the appropriate way that they need to deploy their fiscal support:”

This has been a very uneven recession, a topic the RBA Governor focussed on yesterday and if large sections of the economy are struggling then the RBA should act.

Governor Lowe’s speech was, I believe, one of his most important ever not because the RBA will probably ease in a few weeks but because it broke down the impact of the recession and then concluded more policy accommodation was required. This was IMPACT CENTRAL BANKING as demonstrated by the charts he presented.

“This uneven experience by age, industry, firm size and region will shape the recovery. Some parts of the country and some industries face very real challenges. At the same time, others now have new opportunities. The way business is done is also changing and it is possible that people and firms living through a pandemic become more risk averse, affecting their appetite to spend and invest. This all means that we are likely to see a period of heightened structural change in our economy.”

The RBA recognises that it represents all Australians and wants to be “all in” on policy now as the fiscal income and debt support measures are unwound.

Policy is working but changing and the RBA is not doubling down they are looking to add fuel to the recovery momentum as they don’t want today to be the new normal.

The RBA recognises that “heightened structural change” only occurs when the economy is growing.

The RBA and the Government recognise the impact of the recession has been uneven and wish to respond.

“Our role is to provide support for the economy in aggregate and it's up to others, most obviously the government, to make the decision as to what is the appropriate way that they need to deploy their fiscal support.”

The nature of fiscal policy and the budget are such that they must make impact choice, for the Government it’s how will get the best bang for their buck, they must make specific impact choices. The impact driven choice for the RBA on the other hand is going all in.

David "Bushy" Nolan