RBA Board Minutes Point To Trade Boom

RBA Board Minutes Point To Significant Terms Of Trade Boom

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The Reserve Bank today released minutes from the early April Board meeting, during which Board members elected to deliver a second straight monthly rate hike. The minutes were upbeat, similar to the tone of the statement accompanying the Board’s decision two weeks ago, but the word “gradual,” which has featured prominently in recent RBA commentary, made no appearance. Indeed, it is becoming increasingly difficult to describe the pace of tightening as gradual, with the RBA now having increased the cash rate five times since October.

The Board minutes indicated that, two weeks ago, RBA officials thought it “might be prudent” not to delay an adjustment to the cash rate; this owed mainly to the fact that the rise in the terms of trade now was likely to be significantly stronger than previously expected. Board members, therefore, believed it was appropriate to take a further step to return interest rates to more “normal” levels. Given that lending rates are still below average levels, however, Board members expect that they will “probably need to rise further in the period ahead.” One may interpret the “period ahead” as one, two, three months or possibly more, but we believe the next rate hike will be delivered as soon as May given the case for returning policy to neutral remains strong.

We acknowledge, though, that the precise timing of rate moves going forward remains highly dependent on the ebb and flow of the domestic data and, of course, events offshore. With respect to the domestic data, the March quarter CPI print will be the key data point ahead of the next Board meeting. Though there has been little new information on inflation over the last month, the RBA minutes highlighted that various measures of inflation expectations had been “around or a little above their average levels.” The RBA continues to forecast inflation consistent with the medium term target, but we believe with the economy having moved back onto a trend-like growth path, and with very limited spare capacity, inflation pressures will build.

Importantly, the minutes today provided more colour on two areas that appeared to be of growing concern for RBA officials when they decided to lift the cash rate a further 25bp to 4.25% two weeks ago. These were the rising terms of trade, and the positive impact this has on incomes and investment, and conditions in the established housing market.

On the terms of trade, the RBA noted that spot prices for Australia’s key commodity exports, iron ore and coal, had continued to rise. This it attributed to large increases in steel production over the last decade, which owed mainly to strong growth in the Chinese economy. As a result, the terms of trade was likely to be significantly higher than forecast in the last Statement of Monetary Policy in February. This implies strong growth in nominal incomes and a bright outlook for investment in the resources sector this year, which will likely pose “challenges” for the Board going forward.

With respect to the housing market, the RBA again described it as “buoyant,” with house price growth continuing and auction clearance rates remaining high. The RBA discussed the ongoing supply-demand imbalance in the housing market. On one hand, underlying demand continued to rise owing to strong population growth, the healthy outlook for household incomes, and below-average mortgage rates. On the other hand, new housing supply remained constrained, owing to ongoing financing issues faced by developers and persistent red tape.

On the domestic economy, the RBA also highlighted that the decline in business credit had slowed, conditions in the labour market were continuing to improve, and that consumer and business confidence remained elevated. Despite the fact that sentiment remained high, however, the Board noted that consumers appeared quite cautious in their spending and that, in some sectors outside mining, businesses were cautious toward future spending plans.

On global conditions, the RBA said that the recovery was still “two-speed.” In the major advanced economies, the recovery remained “tentative” whereas in the less developed, emerging economies, particularly in Asia, the expansion was strong With Australia’s major trading partners residing in Asia, the latter has ensured that demand for the nation’s key commodity exports had remained robust.

The next key policy event will be a speech by the RBA Governor on Friday. Governor Stevens will speak on Economic Conditions, so his comments will attract the market’s undivided attention.

ENDS

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