While economic readings in much of the world remained mixed-strength through April, there were signs that easier policy settings in China may be starting to gain traction. China’s March economic readings were almost all stronger than expected and improving industrial commodity prices, notably the stronger iron ore price, added to a sense that China’s economic growth rate may be starting to improve. In Australia, economic readings mostly relating to February were mixed, but consistent with moderate GDP growth in Q1.The RBA continues to point out that continuing low inflation provides it with the capacity to lower the cash rate should demand in the economy show signs of weakening although it continues to imply in commentary that it is in no hurry to change its cash rate.
In the United States economic readings released in April continued to point to comparatively soft GDP growth in Q1 2016 and some easing in inflation too. Almost all of the housing indicators in March took a weaker turn. Existing home sales was a rarity showing an increase of 3.5% m-o-m, but that only half compensated for the 7.3% fall recorded in February. March new home sales, in contrast, fell by 1.5%. In terms of home building activity, March housing starts fell by 8.8% m-o-m, while housing permits fell by 7.7%. Continuing the theme of weaker US growth, March retail sales fell by 0.3% m-o-m and industrial production was down by 0.6% m-o-m for a second consecutive month. Despite the weak February and March industrial production readings, regional manufacturing surveys in the US are showing a glimmer of hope mostly moving in to expansionary territory in March and April.
Another point of strength in the US is the improving labour market. Non-farm payrolls rose in March by 215,000, after lifting by 245,000 in February. While the unemployment rate edged up slightly to 5.0% in March, the key point is that the US economy continues to generate more than 200,000 additional jobs each month and recent weekly readings of initial jobless claims running at their lowest point since 1973 point to strong increases in payrolls continuing. Even with strong employment growth annual inflation remains modest in the US and actually moderated to 0.9% y-o-y in March from 1.0% in February. The next Federal Reserve monetary policy meeting occurs this week and at this stage seems likely to leave the funds rate unchanged at 0.25-0.50%, where it has been since the sole rate hike in the current cycle back in December 2015.
In China, annual economic growth edged lower in Q1 2016 to 6.7% y-o-y, from 6.8% in Q4 but with signs in March readings that the low point for China’s growth rate may have occurred during Q1. March readings of exports, +11.5% y-o-y from -25.4% in February; industrial production, +6.8% y-o-y from +5.4% in February; retail sales, +10.5% y-o-y from +10.2%; and urban fixed asset investment, +10.7% y-o-y from +10.2% all pointed to improving economic activity. House prices seem to have turned the corner in China too, lifting 4.9% y-o-y from 3.6% in February. Reports also indicate a sharp lift in China’s steel production although distortions to inventories around the Lunar New Year holidays may have played a part in the extent of the improvement. All told, it seems that China’s economy is starting to respond to easier policy settings – the repeated easing policy moves by the Peoples’ Bank of China over the past year as well as the more recent government budget spending initiatives. GDP growth looks set to lift a little in Q2 and Q3.
In Europe, economic readings remain consistent with annual GDP growth running at mid-1% annual pace. After easing monetary policy further at its early March policy meeting, the ECB left policy unchanged at its April meeting, much as expected. ECB President, Mario Draghi, continued to indicate that the ECB has more policy tools at its disposal negating some concern surrounding negative interest rate settings in Europe. In Europe, the two biggest economic problems are high unemployment and potential price deflation. Both problems continue to moderate – the unemployment rate was down to 10.3% in February and headline annual inflation moved just out of negative territory in March – but progress is very slow and still leaves Europe’s economy relatively vulnerable to set-back.
In Australia, February readings of retail sales, 0.0% m-o-m, and international trade -a much wider than expected deficit of $A3.4 billion – were both disappointingly weak. In contrast, housing indicators showed a flicker of improvement. Home building approvals lifted by 3.1% m-o-m, albeit after falling 6.6% in January. February housing finance commitments for owner-occupiers rose by 1.5%, but after falling 3.9% in January. After three consecutive soft monthly employment readings, the March labour force report showed employment up by 26,100 and the unemployment rate unexpectedly falling to 5.7% from 5.8% in February. Surveys of business and consumer sentiment are pointing in opposite directions with business sentiment firm but consumer sentiment weakening quite sharply. The mixed results should hardly be surprising given that Australia is also entering an unusually long Federal election campaign ahead of the near-certain double dissolution election in early July.
The biggest drag on Australian economic growth, the continuing rundown in mining investment spending is still showing no sign of abating. The RBA continued to maintain an upbeat view of Australia’s economic prospects both in the minutes of its April policy meeting and in various speeches, but it also made it plain that it remains prepared to lower interest rates if demand weakens. The RBA has started to express concern about the stronger Australian dollar too and feels that the move in the currency is unhelpful in rebalancing economic activity to the non-resources sectors of the economy.
Our view remains that the risks to Australia’s growth rate remain skewed to the downside. We see the RBA cutting the cash rate further, probably in the next few months. Given that lenders have been slowly raising their lending interest rates and that the Australian dollar has appreciated, Australian monetary conditions have tightened noticeably since late 2015. We see the RBA wanting to offset this tightening of monetary conditions implying at least two 25bps cash rate cuts this year taking the cash rate down to 1.50% by the end of 2016.