6 April 2020
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Do we really need an interest rate cut today?

Peter Switzer
7 May 2019

Yesterday our stock market fell on the back of another Trump tweet that he would slam tariffs on China if they don’t play ball. This morning we learnt that the China-US trade meeting scheduled for Friday is still on. As this wiped out most of the losses for the US stock market overnight, let’s focus on the big issue at hand: will the Reserve Bank cut the cash rate of interest today?

The problem I have with an interest rate cut today will be the message it leaves about the economy. The question is: just how bad is the Aussie economy? An additional question is: are interest rates the cause of the economic problem and if not, will a cut help?

Last week we learnt that RBA research shows a 1% cut would lead to a 28% rise in prices! That might mean a 0.25% cut could give birth to a 7% rise. This is pure guesswork but it implies that it could take the wind out of the sails that’s pushing house prices down right now.

Falling house prices aren’t helping the Oz economy so a cut could give a shot in the arm for consumer confidence. However the headlines that could ensue about the weakness of the economy might offset the pluses that a cut could deliver.

I guess that’s the gamble the RBA boss Dr. Phil Lowe, has to factor in when his board and he decide on rates today.

Before I give you my final view on the subject, let’s see just how badly the economy is travelling. Here goes:

• This chart showing growth says a lot that doesn’t need much explanation — growth is slowing and the economy needs a shot in the arm.

The RBA likes to take two quarters, add up the growth and multiply it by 2 to annualize it. On that basis, we’re growing at 1%! We need 3% growth to keep unemployment falling.

• Inflation is often seen as an indicator of demand and economic activity, so inflation going from 2.1% to 1.3% over the past four quarters isn’t a great sign.

 Sure, the age of digital disruption and the threat of the Internet with its hoards of global businesses (big and small) competing for our business means lots of local businesses have lost the power to confidently raise prices.

 • On the other hand, the employment chart screams no rate cuts are necessary.

This is how CommSec’s Craig James saw the April numbers: “Employment rose for the eighth straight month (only one fall in 30 months), up by 25,700 in March after a revised 10,800 increase in jobs in February (previously reported as a 4,600 increase in jobs), he pointed out. “Full-time jobs rose by 48,300, but part-time jobs fell by 22,600. Economists had tipped an increase in total jobs of around 15,000.”

The irony is that the Coalition has seen well over a million jobs created under their watch. ABC Factcheck says “Australia experienced record full-time job growth in 2017, in both raw and proportional terms”. Surprisingly, this surge in job creation has continued to today, with even the participation rate seeing record highs last year. In fact, some have asked if the jobs eventuated from the lack of pricing power that has extended to the labour market.

A lack of wage growth is seen as another problem for the economy but could this explain the jobs growth? Lefties don’t like this possibility for obvious reasons.

• What about job ads as a guide for the future? The ANZ job advertisements fell for the sixth straight month but was down only 0.1% in April, after falling by 1.7% in March. But get this, ads last year hit a record high but are now only down by 5.6% over the year to 166,464. This isn’t a very worrying story.

• One area that looks like a worry is car sales but the five-year chart below tells another story. In 2018, there was a huge spike in sales, with an all-time high reached in June of that year when 130,300 vehicles were sold. The average from 1994 to 2018 was around 78,400 a month. Right now it has dropped to 75,500, which is close to average but these numbers have to be affected by the huge 2018 sales as the chart shows: 

• What about confidence? Consumers aren’t over the moon, as this chart shows:

A reading above 100 says optimists outnumber pessimists. Right now, there’s a lot of negative types not helping the economy.

Meanwhile business confidence hardly makes you confident – as this chart shows:

Once again, this isn’t a great endorsement for the economy’s business fraternity that has had to deal with a Trump trade war, a slowing China, a Royal Commission and an APRA crackdown on lending, banks being forced to make lending criteria more restrictive, digitally disruptive rivals here and from overseas (such as Uber, Netflix and Amazon), low-price global competitors (such as Zara, H&M) and then there’s the Federal election!

So the question is: will a rate cut help much of this? It could by letting banks lend more freely than they can now. This might be better for growth but that would increase household debt, which is already at record highs.

Well, what about tax cuts that are bigger than those already promised by the Coalition and Labor? This would be a better way to stimulate economic growth but that would increase Government debt, which, while low by international standards, is still high.

Our best bet is a lower dollar encountering a pick-up in global economic growth, which could be on the cards if the US and China ink a deal ASAP.

A rate cut will take the dollar down. If that leads to more exports and less imports, then that’s good for the economy. And for those worried about our household debt, maybe the cut will have little effect on borrowing but could help many borrowers retire debt. That, I have to admit, is wishful thinking.

On balance, the economy needs something and a lower dollar might be our best way out of this growth slowdown. Dr Phil’s decision is a hard one. It’s made harder because there’s an election campaign going on.

Many seasoned economists expect two rate cuts this year. If the RBA does exactly that later in 2019, then I’ll be asking this question: why didn’t they cut earlier?

My feeling about Dr Phil is that he wants the economy to bounce without a cut. He doesn’t look like a guy who wants to be seen as political.

My guess is that he holds rates today and gambles on Donald’s trade deal, a post-election bounce, the promised tax cuts, the dollar that’s now under 70US cents and a global economic rebound to do his work for him.

This is a close call. I must admit I’m not trained to read people’s minds.

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