RBA’s Debelle discusses policy easing options

Chris Scicluna
Emily Nicol

Asian markets again weighed down by losses on Wall Street
While European indices closed down well over 3% yesterday, undermined by worries about new restrictions due to the resurgence of coronavirus cases, US markets more than halved their losses over the last hour of trade to leave the S&P500 down a comparatively modest 1.2%. The late recovery was led by the technology sector, with the Nasdaq closing down just 0.1% after being down 2½% in early trade. Nevertheless, the risk-off tone resulted in a modest bear-flattening of the US Treasury curve and a slightly firmer US dollar. And US equity futures have traded a little lower today in Asian trading, not helped by additional worries about US-China tensions after President Trump said that he might renege on his earlier approval of Oracle’s deal to take over the US operations of TikTok – a deal that has not yet been approved by China.

While Japanese markets remained closed for another national holiday and economic news from the region was light, those Asian markets that were trading mostly took their lead from the US. The largest losses were seen in South Korea, with the Kospi down more than 2%, while losses in China, Hong Kong, Taiwan, Singapore and Australia spanned ½-1½%. In Australia there was little market reaction to what was nevertheless an interesting speech made by RBA Deputy Governor Debelle, who discussed options for further policy easing without giving any indication whether additional action is likely to be required (see below). Following yesterday’s steeper declines, meanwhile, European stocks are largely opening higher. And in the bond markets, BTPs are making gains after Italy’s ruling parties had a largely satisfactory day yesterday at the ballot box (see more on this below too), but Bunds are currently slightly weaker.

RBA leaves open door to long-term bond purchases or a modest rate cut
The key domestic focus for Australian investors today was a speech given to a business audience by RBA Deputy Governor, Guy Debelle. The speech spent some time reviewing the severe impact of the pandemic on the Australian and global economies and the actions that have been taken by the RBA to play its role in supporting the domestic recovery. Regarding the economy, Debelle described Australia’s recovery as “a slow grind”, reflecting weak household and business confidence and the impact of Victoria’s lockdown (the latter is estimated to have subtracted 2% from national GDP in Q3).

Referring to the recent labour market report, Debelle acknowledged that the decline in the unemployment rate to 6.8% in August was better than expected. However, he cautioned that the recovery in the labour market is likely to be bumpy and uneven, and indicated that the Bank still expects the unemployment rate to rise over coming months. And importantly, he noted that even if the labour market does prove stronger than expected, the unemployment rate remains well above the pre-pandemic level of around 5% – a level that had not been low enough to generate sufficient wage growth to be consistent with the Bank’s inflation target.

Looking ahead, Debelle reminded that under the central scenario considered in the Bank’s August Statement on Monetary Policy, which envisaged a rise in the unemployment rate to 10%, it would be more than three years before sufficient progress was being made towards full employment to be confident that inflation will be sustainably within the target band. He added that in this scenario the outlook for inflation and employment would not be consistent with the Bank's objectives, and so the Bank’s Board continues to assess other policy options that could be deployed if warranted. He said that one such option is to extend the Bank’s bond purchases further out along the curve (beyond three years). While in Australia very few financial instruments are priced off bonds with maturities of greater than three years, Debelle argued that the Bank’s purchases would still help to lower the general structure of interest rates via portfolio balance effects as investors switch into other assets.

Debelle appeared to rule out the option of foreign exchange intervention, however, arguing that with the Australian dollar broadly aligned with its fundamentals, it is not clear this would be effective at present. So, the other option would be to lower the Bank’s official interest rates (the 0.25% target for the cash rate and 3-year bond rate, the 0.25% charged for term funding and the 0.10% paid on financial institutions’ exchange settlement accounts at the RBA). Here Debelle acknowledged scope to make these rates less positive. But on the possibility of implementing negative interest rates, Debelle described the empirical evidence as mixed. In particular, echoing critics of the ECB and BoJ, he noted that negative rates could encourage even greater saving if households look to preserve the value of their savings. And he observed that those central banks elsewhere that had entered the pandemic with negative interest rates had elected not to lower them further as part of their pandemic response.

So in summary, Debelle’s comments indicate that if further action is judged to be necessary this is most likely to take the form of long-maturity bond purchases and/or a modest lowering of official interest rates towards, but not below, the zero bound. While we cannot rule out the Bank taking some further action at the next meeting on 6 October, the more likely timing would be at the subsequent meeting in November, following which the Bank will also release its updated quarterly Statement on Monetary Policy. By that time the outlook for the pandemic – including the prospects of an effective vaccine – and the global economy will hopefully be a little clearer and the Bank will be able to judge reaction to the federal Budget (also scheduled for 6 October). So it should also be clearer whether the Australian economy is following a path that is somewhat firmer than the central scenario that the Bank had envisaged in August.

Australian payrolls edge lower; consumer confidence rises to 3-month high
Turning to today’s Australian data, first up the weekly ANZ-Roy Morgan index of consumer sentiment rose 1.1pts to 93.5 – the highest reading for three months. Of particular note was a sharp improvement in respondents’ near-term expectations for the economy. In other news, the ABS released its indicator of payroll jobs and wages, which uses tax data to try to provide a high frequency and timely indicator of the impact of the pandemic on the labour market. The number of payroll jobs fell 0.4% between 22 August and 5 September, not least due to a 0.8% decline in jobs in Victoria. As a result, while roughly 50% of payroll jobs initially lost at the start of the pandemic have been recovered, the number of payrolls jobs is still down 4.5% since mid-March, led by an 8.3% decline in Victoria and a 3.7% decline in New South Wales.

Italy’s Five Star bolstered by referendum, Democrats defend Tuscan bastion
Italy’s ruling parties had a decent start to the week, with the Five Star Movement bolstering its political capital in the referendum to shrink both lower and upper houses of parliament, and the centre-left Democrats largely resisting the challenges from Salvini’s League and its right-wing populist partners in yesterday’s regional elections. In particular, almost 70% of voters approved of the plans, which had been a Five Star flagship policy, to shrink the number of seats in parliament by more than one third. And most notably in the regional elections, the Democrats retained their Tuscan bastion against the right-wing challenger hand-picked by Salvini, winning almost half of the vote there. They also retained two further regions (Puglia and Campania) out of the seven contested. The Eastern region of Marche was the only one where the right, under the guise of the populist Brothers of Italy, took control from the Democrats. The results should be enough to strength, at least for a while, the leaderships of both Five Star and the Democrats, and allow them now to refocus on preparations for next year’s budget and plans for spending Italy’s share of the EU’s recovery fund, which will see Italy receive €44.7bn in grants over the next two years and probably more than €20bn in 2023 too.

European sentiment surveys due for release
Sentiment surveys will be on the European docket today, with the Commission’s preliminary euro area consumer confidence indicator expected to report little improvement in conditions as concerns of a second pandemic wave and deteriorating labour market outlook remain to the fore this month. Meanwhile, ahead of tomorrow’s flash PMIs, the CBI industrial trends survey will provide an update on UK manufacturing conditions – expectations are for orders to have remained well down on a year earlier despite the revival in retail sales both at home and in major export markets.

Bailey to speak ahead of announcement on new UK restrictions
Likely of more interest than the data in the UK will be BoE Governor Bailey’s speech to a British Chambers of Commerce webinar, which will get underway within the coming half-hour, and will include discussion of recent monetary policy decisions and what further steps might be required to sustain the recovery. The BoE’s continued preparations for a possible future shift to negative rates might therefore again come into focus, particularly with new covid-related restrictions on activity – reportedly including a 10pm curfew for pubs and renewed encouragement for home-working – to be announced by PM Johnson this evening.

US focus on home sales later today
In the US, today will bring existing home sales figures for August, with a very modest further improvement expected to follow strong readings in June and July, thus taking sales to their highest level since late 2006.

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