Navigating Uncertainty: Assessing the Labour Market and Rate Outlook Amidst Economic Dynamics
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Is the labour market turning? It is not at all clear
The labour market is also remaining remarkably (and unhelpfully) firm, with May data showing an unexpected rise in full-time employment and a drop in the unemployment rate. Viewed against long-run trends, the unemployment rate remains extremely low and doesn't seem consistent with slower inflation. And then there is wage growth, which is also still heading higher, though is very lagging, so we don’t really know what is going on here in real time.
So, despite the slowdown in overall economic growth, there are a number of indicators that still look like reasons for more tightening, rather than either easing or pauses, though we suspect these are not yet showing the full extent of the effects of earlier monetary easing.
Also, the RBA has at times seemed keen not to overtighten given the lags involved in the monetary transmission mechanism. Time is likely to be a helpful ally for rate doves allowing the slowdown to work through the economy more fully. This is certainly true of the lagging labour market.
What happens in other central banks, most notably the US Federal Reserve may also play a role. It will be far easier for the RBA to hold fire if that is also what the Fed is doing. Though this also remains a tight call and the current guidance from the Fed is for another 50bp of tightening, even though we don't think that they will ultimately deliver.
All things considered, the case for believing that the cash rate may have already peaked is weakening, if not entirely dead. So while this remains the base forecast, it will not take much for us to jettison it in favour of further hikes. That said, the market expectation for a further 50bp of tightening does feel too high, and we would limit any further increase to 25bp. It would certainly help our current call a lot if activity and labour data both swung our way in the coming months, to bolster the message from lower inflation, on which we feel a much stronger conviction. We have, however, ditched our view that rates will be cut as soon as 4Q23, and have pushed this out into 2024.
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