RBA’s forecasts imply 2 rate hikes by Mid-2019

Are you ready for an interest rate rise?

Well… you may should be.

After holding rates steady for many months the ANZ Bank believes that the RBA’s forecasts imply 2 rate hikes by mid 2019.

  • The question of what the RBA’s forecasts imply about the cash rate has been a focus of recent attention. If we use our estimate of the RBA’s reaction function, then the forecasts published by the Bank in May imply a cash rate of 2% by mid-2019  interest
  • Reaction functions change, of course, as our own research shows. But we struggle to see a scenario in which the RBA’s reaction function would change so dramatically that it could generate a significantly more aggressive outlook.
  • What will be needed to support more than a couple of rate hikes by mid-2019 is a shift in the RBA’s expectations for inflation and unemployment. This is not out of the question, but we think the Bank’s forecasts are more likely to move in a direction that argues for less rather than more in terms of the outlook for the cash rate. The Bank perhaps hinted at this when it removed from this week’s post-board meeting statement a reference to growth accelerating to above 3%.
  • Thinking about the likely policy path, we published a report earlier this week on whether trying to reduce financial imbalances through higher interest rates than warranted by the inflation outlook was worth the cost imposed. We think not.
  • The gap between business and consumer sentiment has been narrowing, with consumer confidence rising. This is consistent with previous research we have published on the gap between the two. We don’t, however, think it will close entirely.

THE ANZ HEATMAP

ANZ Heat Map

WHAT DO THE CURRENT RBA FORECASTS IMPLY FOR THE CASH RATE? 

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Much has been made of a recent comment from an ex-RBA board member that the Bank’s forecasts imply eight rate hikes over 2018-19.

We can test this proposition by combining our estimated RBA reaction function (see Insight 29 March) with the forecasts the Bank published in the May Statement of Monetary Policy.

When we do so we find that the RBA’s May forecasts imply a rate hike in the second half of 2018 and then another in the first half of 2019, taking the cash rate to 2% by mid-2019 (Figure 1).

FIGURE 1. POSSIBLE EVOLUTION OF THE RBA CASH RATE GIVEN THE RBA’S FORECASTS

RBA cash rate

Source: RBA, ANZ Research

We should note that on the basis of the RBA’s reaction function, ANZ’s forecasts for unemployment and inflation imply one rate hike by the middle of 2019.

We haven’t put a rate hike into our forecasts, however, because we see the risk distribution around our inflation pick as weighted to the downside.

The risk distribution has to be more evenly balanced before we would formally incorporate a rate hike into our forecasts. RBA

Reaction functions are not fixed in time, of course, as our own research shows.

But we struggle to see a scenario in which the RBA’s reaction function changes so dramatically that it could generate anything significantly more aggressive than the profile in Figure 1.

What will be needed to support more than a couple of rate hikes by mid-2019 is a shift in expectations for inflation and unemployment.

This is not out of the question, of course.

Though at present, we think the Bank’s forecasts are more likely to move in a direction that argues for less rather than more in terms of the outlook for the cash rate.

There was perhaps a hint of this in this week’s post-board meeting statement from the Bank when the reference to growth accelerating to above 3% was taken out.

Source: ANZ Australian Macro Weekly 

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