October 4, 2023 / Sydney, Australia

RBA Mood on Australian Economy

The Reserve Bank of Australia (RBA) has opted for a cautious approach on interest rates, maintaining a "wait and see" stance as it assesses the Australian economy's delicate balance between stubborn inflation and the risk of recession. The RBA's decision to keep rates unchanged at 4.1% in October was a closely contested one, with considerations of raising rates further discussed at both July and August meetings. While June quarter inflation figures were slightly lower than expected, the RBA's forecasts for consumer price increases remain largely unchanged.

The RBA anticipates inflation to decrease more rapidly this year, reaching 4.1% by December. However, this comes with a slight upward revision in inflation forecasts for next year and 2025, with inflation expected to stay above the RBA's 2-3% target until the end of 2025. The bank's preferred measure, "trimmed mean" inflation, is predicted to return to 2.9% by June 2025.

Retail sales and business liaison reports have played a role in convincing the RBA to wait and observe how quickly consumer spending responds to the implemented rate increases. Some retailers have recorded modest sales declines, with household goods and clothing retailers experiencing significant falls. Domestic tourism demand has decreased, while spending on discretionary services remains high.

Residential construction spending has been downgraded due to low new home sales, raising concerns about employment in sectors like retail and construction. Liaison reports suggest weaker employment intentions for firms tied to residential construction. Moreover, a slowing economy has led to a reduction in investment plans over the next 12 months.

The increase in interest rates poses a challenge for the RBA as it is likely to further boost rental inflation. However, the influx of working-age migrants has eased labor supply issues, curbing wage growth but boosting housing demand.

The RBA faces uncertainties regarding how households and businesses react to the evolving economic landscape. Wages growth, productivity recovery, and the impact of legislated tax cuts are all variables influencing future inflation trends. Overall, the RBA's decision to keep rates on hold reflects the cautious approach needed to navigate the economic challenges posed by inflation and potential recession risks.

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