Main Themes: Realisation that the trade war has yet to be resolved sank in. Trump’s threat to increase tariffs on China on the weekend continued to hit sentiment. Shares markets and bond yields were down. The A$ is higher after the RBA left official interest rates unchanged yesterday.
Share Markets: Share markets weakened as investors worried about the setback in trade negotiations between the US and China. Additionally, markets were probably due for a breather after US stocks hit a record high last week. The Dow dropped 1.8% while the S&P500 fell 1.7%. It was the biggest daily percentage drop in the S&P500 since March.
Interest Rates: The weaker risk environment brought down yields only slightly. US 10-year yields dropped 1 basis point to 2.46%
Foreign Exchange: The US dollar index is higher, although the Japanese yen was the outperformer with the lift in risk aversion. The Australian dollar weakened on the subdued risk environment overnight, but is still trading marginally above its level prior to the RBA’s decision to leave the official cash rate unchanged. The AUD jumped 70 US cents to a high of 70.5 US cents just after the decision before sliding to 70.1 US cents this morning.
Commodities: Commodity prices weakened amid weaker risk appetite. Oil prices fell to their lowest in a month. Gold prices were the exception benefiting from safe haven flows
Australia: In a highly anticipated decision, the Reserve Bank left the cash rate unchanged yesterday at 1.50%. We maintained our forecast that the RBA would wait to cut the cash rate until the second half of this year (which is our forecast since February), but conceded it would be a close decision. The RBA’s accompanying statement made it clear the RBA has put its faith in jobs. Yesterday’s on-hold decision was heavily steered by the firm trend in jobs growth.
For some time the RBA has faced a conundrum. On the one hand, there has been a slowing of economic momentum since the middle of last year and inflation has remained subdued. But, amid this backdrop, jobs growth has stayed very strong. The RBA is likely trying to assess which scenario reflects more truly the underlying state of the economy.
The flavour of the statement suggests the RBA believes the unemployment rate will decline over time. It has a forecast for the unemployment rate for 2021 of 4¾%, although this year and over next year the central bank expects the jobless rate to remain broadly around 5%.
Looking ahead, the RBA continues to expect inflation ”to pick up”, but to do so only gradually”. Underlying inflation has been running under the RBA’s 2-3% per annum target band for over three years. The risk is it continues to take longer to get back in the band. The RBA yesterday cut its inflation projections for this year and next year.
Whether the RBA cuts the cash rate in coming months will boil down to the jobs market. In the final paragraph, the RBA said it needs further improvement in the labour market for inflation to be consistent with target. But its broadly steady unemployment rate forecast until 2021 suggest a higher risk that a rate cut will be warranted.
We continue to expect the RBA’s next move in the cash rate to be a cut in the second half of this year.
In terms of data, retail spending remains in the doldrums, reflecting the headwinds from high household debt, weak growth in incomes and the downturn in the housing market. Retail sales in volumes terms contracted 0.1% in the March quarter, the first decline since the September quarter of 2012. Moreover, retail sales volumes have not witnessed any growth for six months and the annual rate stepped down from 1.6% in the December quarter of 2018 to 1.1% in the March quarter, the weakest pace in 7½ years.
In nominal terms, retail sales rose by 0.3% in April, after strong growth of 0.9% in March. The result takes the annual growth rate to 3.5% in April, from 3.2% in March. However, this annual pace of retailing remains below the long-run average.
In other data yesterday, data showed the trade surplus remained elevated at $4.95 billion in March, only down slightly from a record high of $5.14 billion for February (revised up from $4.80 billion). Imports were the main surprise, falling by 1.5% in the month. Exports also fell, by 1.8% in March, but have been volatile in recent months due to supply disruptions.
For the March quarter, the Australian Bureau of Statistics advised that the trade surplus widened to $14.2 billion in Q1, from $8.6 billion in Q4, an improvement of $5.6 billion.
Europe: The European Commission revised down its forecast for growth in the zone this year from 1.3% to 1.2%.
German factory orders rose 0.6% in March, the first increase since December. Despite the lift in the month, the March quarter is still weak after contractions of 4.0% and 2.1% in February and January, respectively. While other indicators are suggesting some improvement in the euro zone economy, today’s data is suggesting that German manufacturing activity is a soft spot.
United States: Job openings jumped 4.8% to total 7488. It was the largest percentage increase in a year, although it only partially recovered from a 6.3% slump in February. Nonetheless, the rebound suggests that there remains strength in the labour market.
In other data, consumer credit lifted $10.3bn in March, the smallest increase in nine months.
The US Federal Reserve’s Vice Chair Clarida reaffirmed the broadly neutral stance given by Fed Chair Powell. Clarida said that monetary policy was in a good place and that “we don’t see a strong case to move rates in either direction”.
Today’s key data and events:
NZ RBNZ Official Cash Rate exp 1.50% prev 1.75 (12pm)
US MBA Mortgage Applications May 3 prev -4.3% (9pm)
US Federal Reserve’s Brainard Remarks (10:30pm)
Times are AEST. All data forecasts are m/m or q/q and seasonally adjusted unless otherwise specified. Forecasts for Australian data are our forecasts and for other countries they are consensus forecasts.
Janu Chan, Senior Economist