For a more comprehensive round up of the week, listen to Stephen’s full report here.
The run of Australian economic readings over the past few months seems to show that the economy took a turn for the better in mid-2013 primed by rising housing activity. The improvement in housing was followed relatively quickly by stronger retail sales and household consumption in Q4 2013. Export volumes lifted sharply through the second half of 2013 as well. It was not all good economic news. Business investment spending contracted sharply through the second half of 2013, led by the much heralded fall in mining investment spending. Also, the labour market was weak through 2013 and appeared to be deteriorating late in the year and early in 2014.
One worrying puzzle was that even though the labour market is a lagging indicator of economic activity, accelerating economic growth through the second half of 2013, even if not strong enough to cap the unemployment rate, should have been sufficient to generate small increases in employment. Yet the January labour force report indicated that employment had fallen for a second consecutive month, a 3,700 fall after a 23,000 fall in December. If puzzlingly weak employment persisted and the unemployment rate continued to drift up, there was a real risk that stronger spending on housing and consumption could be compromised at some point, cutting in to economic growth.
The recently released February labour force report provides a welcome hint that employment growth may have taken a turn for the better early in 2014. Employment unexpectedly jumped by 47,300 in February and after the initial report of a 3,700 fall in January was revised substantially to an 18,000 increase. In January and February combined employment rose by 65,300, after falling by 13,800 in the second half of 2013. That appears to be a big improvement, although more monthly readings will be needed to confirm. Australia’s economic stars appear more in alignment with the start of accelerating economic growth after a lag of about six months starting to feed better employment growth.
Better employment growth will in turn take a few more months to convincingly cap the unemployment rate. Better employment growth tends to go hand-in-hand with discouraged workers returning to the labour market and that is what has happened in January and February with the supply of workers rising by 92,100 after lifting by only 3,200 over the preceding six months. As a result, the unemployment rate actually edged up between December and February from 5.9% to 6.0%. A tricky phase still lies ahead where households may continue to worry unduly about the risk of unemployment, even though that risk is starting to diminish. Once the unemployment rate starts to fall, as we believe it will in the second half of 2014, households become more confident about spending more and saving less.
The RBA is clearly watching these developments as well. In the wake of the February labour force report, the chances have improved of economic growth accelerating above trend late in 2014, much as the RBA is forecasting. The RBA still feels that the very low 2.50% cash rate is appropriate for an economy still not growing above trend and still facing a big headwind from declining mining investment. Yet the RBA is also making it plain that the economy is no longer likely to be soft enough to need any further assistance from a lower cash rate. Instead a period of interest rate stability is what the economy requires, although the RBA admits that it does not know how long the period of interest rate stability will last. Quite clearly on the RBA’s current economic forecasts of growth running above trend beyond 2014 and inflation above 3% in 2014 and still in the high end of 2-3% target band beyond, the next cash rate move when it eventually comes, is likely to be a rate hike. Our cash rate forecast is that a first 25bp cash rate hike is likely to be in August, after the Q2 2014 CPI report.