The Sydney Morning Herald – 27 October, 2014.
For Goldman Sachs, the worst is ahead for Australia and housing-bubble concerns will fade as the focus shifts to slowing jobs growth and inflation.
The only hurdle keeping the Reserve Bank of Australia from adopting an “easing bias” is a property boom, as mining investment is set to drop further along with raw material export prices and government revenue, said Tim Toohey, Goldman’s head of economics, commodities and strategy for Australia.
There’s about a 32 per cent chance of a cut to the benchmark interest rate over the next year, a Credit Suisse index based on swaps shows.
“It’s going to come down to the unemployment rate, inflation and, as I say, house prices are more of a second-order concern,” he said. “Into that March, April period next year, that’s when it’s going to get interesting.”
While markets are pricing in rate-cut risks, none of the 26 analysts surveyed by Bloomberg this month predicted a move lower after RBA Governor Glenn Stevens expressed concern about high house prices and said monetary policy can’t directly create the “animal spirits” needed to spur economic activity.
The RBA’s job will be made more difficult by the resilience of the Australian dollar as expectations for a Federal Reserve rate increase get pushed back and Europe slows, Toohey said.
A drop-off in mining investment is still to come and will probably have a greater negative economic impact than currently assumed, Toohey said.
In addition, he sees an “income shock” hitting the economy over the next few quarters following the decline in prices of exports like iron ore and coal.
A Deutsche Bank index that tracks the prices of commodities important to Australia slid 20 per cent this year with iron ore and thermal coal touching five-year lows in the past month.
The RBA’s trade-weighted index for the local currency has declined just 0.2 per cent since December 31.
The Australian dollar was trading at 88.13 US cents on Monday afternoon, down 1.2 percent since December 31.
“The currency has to be lower, but it’s lower relative to where commodity prices actually are going,” said Toohey.
“It’s going to feel like a very, very long time, I think, before that shift in Fed policy can actually give you a breakage in the currency without potentially additional policy easing on the local front.”
Futures contracts indicate about a 50 per cent chance the US central bank will boost its benchmark rate by October 2015.
As recently as October 3, the odds of a July increase were at 52 per cent. The Fed begins a two-day meeting tomorrow and is on track to end bond purchases that have helped weaken the greenback against major counterparts.
RBA Governor Stevens said in August the economy needs an injection of confidence rather than lower interest rates to stimulate growth.
He signalled last month it was unwise to use monetary policy to spur activity and risk a “boom-bust cycle” given increases in house prices.
Sydney home values jumped 14 per cent in the 12 months through September to a median $655,000, according to researcher RP Data. The average dwelling price across Australia’s major cities rose 9.3 per cent.
“There’s really only one hurdle standing in front of the RBA in terms of adopting back an easing bias and it is pure and simply house prices,” said Toohey.
“We were the last ones in the market to take the rate cut out, somewhat reluctantly, and I guess I’ve just made the case as to why the balance of risks still skew in that direction.”
Goldman dropped in August its call for a cut to the nation’s benchmark rate to 2.25 per cent from 2.5 per cent.
Toohey predicts the inflation rate will fall this year below the RBA’s 2 per cent floor and economic growth will be 2.3 per cent next year.
That compares with the median forecast for the consumer price index to rise 2.6 per cent in 2014 with economic growth of 2.9 per cent in 2015, according to forecasts compiled by Bloomberg.
The consumer price index climbed 2.3 per cent in the third quarter from a year earlier, the least in a year and down from 3 per cent in the previous period, a report last week showed. The central bank aims for inflation of between 2 per cent and 3 per cent on average.
The difference in yields between Australia’s 2018 debt that’s protected against inflation and securities that aren’t implies prices will rise 1.95 per cent a year over the life of the bonds, down from the 2014 high of 2.37 per cent in June.
“There’s obviously a global disinflationary impetus through the economy, but the impetus of the income shock we think will be a very significant one,” he said.
“We’ve been pushing a view all year that inflation will finish this year below 2 percent at the headline level and I still think that’s going to be the case.”