July 18, 2017 / 5:00 AM / a month ago

Australia's central bank sees more "positives" in domestic, world economy

4 Min Read

Pedestrians cross a road near a construction site in central Sydney, Australia, June 26, 2017.Steven Saphore

SYDNEY (Reuters) - Australia's central bank has turned more upbeat on the economic outlook, citing an improving labor market, stronger public investment and a pick up in household consumption.

The mood was clearly brighter, with the word "positive" appearing repeatedly in the five-page minutes of the Reserve Bank of Australia's (RBA) July meeting and catapulting the local dollar to a more than two-year high of $0.7905.

While traders bid the Aussie higher, economists said the RBA would be in no hurry to raise rates anytime soon as it remained watchful on risks to jobs and housing.

"We would need to see an upgrade to inflation and wages forecasts to change our view of policy on hold until well into next year," said Kristina Clifton, economist at Commonwealth Bank.

Besides, analysts suspect the recent sharp rise in the local dollar would itself add to the case against a hike. The RBA has long warned that a rising currency would hurt the economy's transition away from a decade-long mining investment boom. 

Since the RBA's July meeting, the Aussie has rocketed nearly 4 percent to a level that will be highly unwelcome to policy makers in the face of weak inflation at home.

Domestic financial conditions had been further tightened by a recent increase in mortgage rates at Australia's major banks, which followed a clamp-down by regulators on risky lending.

The RBA's policy board also discussed estimates of the neutral level of interest rates - that which neither stimulates the economy nor retards it. This was put at around 3.5 percent, which was down from 5 percent in 2007 but still implied the current rate of 1.5 percent was "expansionary."

"The discussion around neutral rates caught the market off guard," said Michael Turner, strategist at RBC Capital Markets. "They are not necessarily laying the groundwork for a hike but this would be the first step if they were moving in that direction."

Futures market now implied a 24 percent chance of a rate rise by December, up from just 8 percent previously. It is fully pricing in an increase of 25 basis points by mid-2018.

The Positives

The RBA welcomed the broad-based recovery in the world economy which had led some other central banks to upgrade their outlooks for growth and interest rates.

At home, the RBA noted a run of stronger employment outcomes augured well for wages, where growth has been stuck at a record low 1.9 percent.

Household consumption growth was showing signs of a pick up with retail sales rebounding for two months. Indeed, data out on Tuesday showed new vehicle sales climbed for a fourth straight month in June to hit record highs.

A new development was an upturn in fiscal spending which was now expected to be stronger in 2017/18 than previously expected, mainly thanks to public infrastructure.

Still, there were a few notes of caution in the minutes.

"...The outlook for growth and inflation meant that developments in the labor and housing markets continued to warrant careful monitoring," the RBA said.

"The Board judged that holding the accommodative stance of monetary policy unchanged at this meeting would be consistent with sustainable growth in the economy and achieving the inflation target over time."

Reporting by Swati Pandey; Editing by Shri Navaratnam

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