Risk assets mostly strengthened in March assisted by signs of slightly better global economic growth, confirmation that the Federal Reserve is moving very cautiously to normalise interest rates and further easing of monetary policy by the European Central Bank. Key commodity prices also showed improvement, another sign that earlier concerns about potential global recession might be fading. Major sharemarkets gained ground through March with rises ranging from 1.3% for the British FTSE 100 to 6.6% for the US S&P 500. The Australian ASX 200 rose by 3.4% in March as banks and resource stocks both recovered ground after earlier bouts of intense selling pressure in January and February.
Australian credit improved strongly through March as concerns surrounding Australian banks and resource companies prominent through much of February continued to recede. On the interest rate front, the March policy decisions of the European Central Bank to ease monetary policy further and the US Federal Reserve leaving its funds rate unchanged, both helped to push most government bond yields lower even in the face of rallying risk assets which would normally see bond yields push higher. The US 10-year bond yield fell in March by 10bps to 1.63%, while the 30-year treasury yield fell by 12bps to 2.50%. The Australian 10-year bond yield went against the trend of falling international bond yields and rose by 9bps in the month to 2.49%. The RBA again left the cash rate unchanged at 2.00% at its March policy meeting and the accompanying statement still took a comparatively upbeat view of Australian economic prospects.
On the US economic data front, non-farm payrolls remained strong in March, up by 215,000 after increasing by 245,000 in February. The unemployment rate edged up slightly in March to 5.0% from 4.9% in February, a sign that there is still a little spare capacity in the US labour force mostly coming from a rising participation rate. Housing indicators were mixed in March, but still quite firm on balance. Private consumption spending growth, however, seems to have moderated in January and February, showing gains of only 0.1% in each month. These signs of less robust household consumption are a little worrying as household consumption provided the main support for US GDP growth in Q4 running at only 1.4% annualised pace on final revision. The risk is that Q1 GDP growth could be even softer with a lesser contribution from consumption spending. After a first 25bps rate hike by the Fed back in December 2015 and then passes at its January and March policy meeting the Fed seems to be signaling that it wants to wait for clearer signs of strength in the US economy. The ambiguity about US growth in recent economic readings implies that the Fed will pass again at its policy meeting later in April, but the June policy meeting could be a live meeting for a rate hike if the data show greater US economic strength.
In China, the February economic readings were mostly softer than expected but with the notable exceptions of urban fixed asset investment that improved to 10.2% y-o-y and house prices that accelerated to 3.5% y-o-y. The improvements in both could imply the beginnings of traction from earlier monetary policy easing moves and more expansionary fiscal policy. The most recent March purchasing manager readings are also hinting at a more positive turn. The official manufacturing PMI lifted to 50.2 from 49.0 in February, while the non-manufacturing PMI rose to 53.8 from 52.7. Both readings point to expanding economic activity implying that annual GDP growth probably based out in Q1 2016 and should accelerate beyond.
In Europe, most economic readings point to moderate GDP growth running around the 1.6% y-o-y pace recorded in Q4 2015. One problem remains potential deflation. The headline European annual inflation rate slipped below zero (-0.2% y-o-y) in February and the preliminary March reading came in at -0.1% y-o-y. The European Central Bank is aware of the fragility of European growth and its financial institutions and moved at its March policy meeting to ease policy further. Apart from lowering all of its policy interest rates including pushing its deposit rate further in to negative territory, down another 10bps to -0.40%, the ECB increased its monthly asset buying program to 80 billion euro a month from 60 billion euro, extended its buying to include for the first time investment grade bonds issued by non-bank corporations and introduced four new longer-term security repurchase operations. The ECB effectively guaranteed that very easy monetary policy would extend beyond the end of the current decade.
Australian economic readings have turned mixed-strength early in 2016. The labour force readings have taken a softer turn with employment rising by only 300 in February after falling by 7,300 in January. While the unemployment rate fell to 5.8% in February from 6.0% in January this was a function of quite fall in the labour force participation rate, a sign of labour market weakness rather than strength. Home building approvals fell by 7.5% in January to be down 15.5% y-o-y, signaling that the contribution to GDP growth from housing activity will fade this year. Retail sales rose by 0.3% in January but will need to lift further if household consumption is to contribute as strongly to growth as it did in Q4 and Q3 2015. The turn in the relative strength of the data still needs to be confirmed with more data, but there is a sense of a softer turn.
The RBA’s view expressed in its detailed quarterly monetary policy statement released in February and again in the statement accompanying its March policy decision leaving the cash rate unchanged is that the Australian economy is showing signs of stronger activity in the non-resources parts of the economy more than countering the weakness in national income, mostly from lower export commodity prices, and the continuing downturn in mining investment. However, persistently low inflation still provides the RBA with the capacity to lower interest rates further if demand does not stay firm. We still think it likely that demand will falter over coming months and we continue to pencil in two 25bps cash rate cuts in May and June taking the cash rate down to 1.50% in the second half of the year. Low interest rates are likely to persist in Australia throughout 2016 and probably through much of 2017 as well.