Bank of Melbourne

Morning Report

Main Themes: The main focus for Australian financial markets overnight was a key and insightful speech by the Reserve Bank (RBA) Governor delivered yesterday evening. In offshore markets, trade developments remained top of mind.

Main Themes: The main focus for Australian financial markets overnight was a key and insightful speech by the Reserve Bank (RBA) Governor delivered yesterday evening. In offshore markets, trade developments remained top of mind.

Share Markets: US share markets extended gains into record territory after US President Trump said he and China’s Xi Jinping are still talking and working on a trade deal. The Dow Jones and S&P 500 are up 32 points and 4 points, respectively, at the time of writing. In terms of daily percentage changes, these increases each represent 0.1%.

Interest rates: US government bond yields fell again overnight. The US 2-year bond yield dropped 3 basis points and the US 10-year yield edged down 1 basis point. Markets are pricing in only a very slight chance of a rate cut in December in the US. In Australia, interest-rate markets are pricing a 15% chance of easing at next month’s RBA meeting and a terminal rate of 0.46%.

Foreign Exchange: The Australian dollar reached its overnight high of 0.6795 after the RBA Governor started his speech last night. But this rise was quickly unwound, taking the AUD/USD to its overnight low of 0.6769. The Governor expressed QE was not likely in the near term and would only be considered once the cash rate dropped to 0.25%.

Commodities: Oil and gold were slightly firmer in price in overnight trade.

Australia: RBA Governor, Phillip Lowe, delivered a key speech last night at an Australian Business Economists’ (ABE) function. The speech was on unconventional policies and was very insightful. Lowe made a number of critical observations. In no particular order, we note the key observations as follows.

Firstly, low interest rates are not a temporary phenomenon and are likely to be with us for some time.

Second, the effective lower bound for the cash rate is 0.25%.

Thirdly, quantitative easing becomes an option to be considered “at a cash rate of 0.25% and not before that”. Further, the threshold for undertaking QE in Australia has not been reached and is not expected to be reached “in the near future”. Lowe also added that it is a bigger step to engage in money-financed asset purchases by the central bank than it is to cut interest rates.

The most likely form quantitative easing would take is the purchase of Commonwealth government bonds and the intention would be to lower the risk-free interest rates along the yield curve, which then helps lower all other interest rates in the economy. The risk-free rate also affects all asset prices.

The Governor did not rule out the inclusion of bonds issued by State governments in a QE program.

Lowe also said negative interest rates are “extraordinarily unlikely” and there is “no appetite” to undertake the outright purchases of private assets as part of QE.

To get to the point of needing QE, the economy would need to be “persistently” away from its inflation and full employment targets. Lowe hoped that if the Australian economy arrived at this point that all arms of policy would be working.

Full employment has for some time considered to be at 4.5%, but during the question-and-answer session that followed the speech, Lowe suggested it has moved to 4.0-4.5%. Certainly, Lowe explained that unemployment would need to be lower for longer in order for wage pressures to be generated. Whilst jobs growth has been strong, incomes growth has not been. Further, jobs growth has been firm, but it has been met by strong rises in labour supply (reflected in a rising participation rate) and labour supply is very difficult to forecast.

Lowe stressed that conventional monetary policy is still working in Australia and we evidence of this in the exchange rate, in asset prices and in the boost to aggregate household disposable income.

Earlier in the day yesterday, RBA Deputy Governor Debelle took to the podium also. Debelle said the RBA’s liaison program suggested 80% of all businesses expected “stable” wages growth in the coming year. Moreover, just 10% were tipping stronger growth while the remaining 10% believed it might slow. It was the lowest proportion of firms expecting higher wages in 20 years of survey work by the RBA. Debelle added that “the more wages growth is entrenched in the 2s, the more likely it is that a sustained period of labour market tightness will be necessary to move away from that”.

United States: The Conference Board’s measure of consumer confidence showed that Americans are less optimistic about the outlook. The consumer confidence index eased to 125.5 in November, from 126.1 in October. It is the fourth consecutive monthly fall.

The Richmond Fed’s regional factory index declined to -1 in November, from +8 in October, It is the second decline in the past three months and mirrors the results from Dallas and Kansas.

New home sales eased 0.7% to an annual pace of 733k in October, from 738k in September. Despite the decline in October, new home sales recorded their best two-month pace in 12 years.

Finally, the trade deficit narrowed to US$66.5 billion in October, from US$70.5 billion in September.

Federal Reserve Governor Lael Brainard overnight painted a mostly positive picture of the near-term outlook for the US economy. Brainard also advocated “flexible inflation averaging” in conducting monetary policy in an era of low interest rates and subdued inflation.

US Federal Reserve Chair Powell repeated his signal that interest rates are on hold for now.

Today’s key data and events:

NZ Trade Oct exp –NZ$1.0bn prev –NZ$1.2bn (8:45am)

AU Construction Work Done Q3 exp -0.5% prev -3.8% (11:30am)

CH Industrial Profits Oct y/y prev -5.3% (12:30pm)

US GDP Q3 annualised exp 1.9% prev 1.9% (12:30am)

US Durable Good Orders Oct exp -0.9% prev -12% (12:30am)

US Initial Jobless Claims w/e Nov 23 exp 221k prev 227k (12:30am)

US Personal Income Oct exp 0.3% prev 0.3% (2am)

US Pending Home Sales Oct exp 0.2% prev 1.5% (2am)

US Federal Reserve Beige Book (6am)


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.


Besa Deda, Chief Economist Ph: 02-8254-3251