Fundamental Analysis

Constructive Developments for the Consumer

Constructive Developments for the Consumer

Developments in Australia and the US this week were supportive of our views for the RBA and the FOMC.

The Westpac- MI Consumer Confidence Survey provided a positive update on confidence. The RBA’s decision to leave the policy rate unchanged in April proved to be an important support, with the overall index rising 9.4% this month from 78.5 to 85.8. This is underscored not only by the upswing in the housing subindexes of the survey-mortgage borrower confidence rose 12.2%, the index for the timing of home purchases rose 8.2%, and house price expectations rose 16.7%-but also by the general recovery in households’ expectations for the near-term economic outlook and family finances. While these developments represent a marked improvement over the very pessimistic readings of February and March-a situation comparable only to the major economic dislocations of the 1980s and 1990s-the overall index, at 85.8, must still be considered weak.

As Chief Economist Bill Evans explained, survey evidence from previous tightening cycles suggests that consumer sentiment may return to more normal levels once there is more convincing evidence that the RBA Board will suspend monetary policy for an extended period. For now, consumers remain cautious about whether the RBA’s April pause will last, a view we share as we continue to forecast a final 25 basis point rate hike at the May Board meeting.

The March labour force survey is also in line with our assessment and provides a positive surprise. The increase in the labour force participation rate (by 0.9 percentage points to 66.74%) resulted in an increase in the labour force of 51.4,000 persons, which is roughly equivalent to the employment increase of 53.0,000. The labour market remains extremely tight, and the unemployment rate surprised for the second consecutive month with a low of 3.5%, unchanged for almost 50 years. The employment-to-population ratio rose to a record-breaking 64.4%. Overall, the update confirmed that business appetite for new workers remains robust, and given the continued growth in labour supply – also reflected by the underlying strength of new arrivals from overseas – labour force outcomes were able to remain solid and above expectations at this stage of the cycle.

Before turning to offshore, a brief note on corporations. The latest business survey NAB provided further evidence of an economy operating at high capacity levels, of an economic slowdown over the past six months, and of fragile and pessimistic sentiment among businesses. The business conditions index fell again, dropping 1 point to +16 in March, a sharp decline from +24 last September, reflecting the loss of momentum in the Australian economy as a result of high inflation and rapid interest rate hikes. Up 3 points to a still subdued -1, the business confidence index may get further relief from the RBA’s decision to pause the survey in April; however, the bigger concern for businesses is the bleak outlook for domestic demand and the fragile and volatile global economy.

On the March CPI report, core inflation (excluding food and energy) was in line with expectations, the 0.4% monthly gain nudging the annual rate slightly higher to 5.6%. The main reason for the ‘stickiness’ in the core measure is due to shelter inflation, which is being held up by the cost of short-term accommodation (2.7%). For the policy outlook, this is not a concern as all leading indicators of rents point to an abrupt deceleration ahead. The remaining detail was also constructive. Other segments of core services – besides shelter – is showing promising signs, with annual inflation across transportation, medical care and recreation all continuing to decelerate. Positively for households, energy prices posted a larger-than-expected decline of 3.5% and grocery prices fell by 0.3%, resulting in headline inflation coming in below expectations at 0.1% in the month.

For the FOMC, these updates provide a balanced look into the progress on inflation and underlying pressures within the economy. We continue to believe that the prudent path for policy is to allow inflation to continue its deceleration without raising the risk of materially weaker growth. With the fed funds rate already at a heavily contractionary 4.875%, policy should remain on hold over 2023 before interest rates can be brought back near neutral over 2024 and 2025, allowing growth to slowly accelerate back towards trend.