RBA Minutes November 2023: It’s mostly about mindset
The RBA minutes contained little new information given recent publications and speeches. Inflation is not coming down as fast as the RBA would like. The upside surprise is attributed to domestic factors more so than the earlier global shocks. Domestic demand has been a bit more resilient than expected, outside the consumer sector, at least. The Board is becoming concerned that businesses are developing an inflationary mindset.
The RBA minutes contained little new information given the Statement on Monetary Policy and a speech by Acting Assistant Governor Kohler had already provided considerable detail on the forecasts and the policy decision.
Inflation is declining but underlying inflation (i.e., trimmed mean) has declined more slowly than expected a year ago. Domestic demand and the labour market have been a bit more resilient than the RBA expected, though it should be noted that the upside surprise has been outside the consumer sector. Population growth has been stronger than expected as student numbers recovered after the borders reopened. But foreign students’ spending counts as services exports not consumption. Given the squeeze on real household incomes from inflation and higher interest rates, consumption over the past year has been weak and largely in line with the RBA’s earlier forecasts.
In light of the more resilient labour market, the RBA lowered its forecasts for unemployment for 2025. Some of this reflects a judgement that more of the slowing in the economy will be seen in average hours worked and underemployment rather than job losses and unemployment. This is a judgement, though, and it remains to be seen if this will play out as the RBA expects. There is also an open question of whether business investment will continue to be as resilient in future as it was in the first half of 2023. Our own forecasts embed a view that some of this surprising strength was a bring-forward of spending to take advantage of tax concessions, as well as some catch-up as supply chain disruptions eased.
A puzzle in the RBA’s explanation of its forecast moves is the choice of the November 2022 forecasts as the point of comparison. This is partly a legacy of the RBA’s annual review cycle for its forecasting process, but it tends to overstate the recency of some of the surprise. The November 2022 forecasts were for trimmed mean inflation to be 5.4% over the year to June 2023, 3.8% for calendar 2023 and 3.2% for calendar 2024. This compares with the 5.9% outcome for the year to June 2023, 4.5% for 2023 overall and 3.3% for 2024, a material near-term upgrade. But most of that upgrade had already happened in the February forecasts: 6.2% for year to June 2023, 4.3% for 2023 and 3.1% for 2024. Policy had already responded to that upgrade. From this we can infer that the RBA put considerable weight on the miss for September quarter, which we think was likely to be a 0.9% quarterly read in their August forecasts, versus the 1.2% outcome.
Although the RBA now assesses risks of a price–wage spiral as having diminished, the Board is becoming increasingly concerned about the prospect of higher inflation expectations becoming embedded in business behaviour. The minutes point to the “slight upward drift” in financial market measures of expectations. It was noted that “If sustained, this would contribute to higher inflation” and “would create a risk that a larger monetary policy response might be required in coming months, especially if inflation pressures turned out to be stronger than expected.” This makes a lot of an imperfect measure that keys off the views of people who do not actually set the prices of goods and services. In drawing such a long bow, the Board is highlighting the degree of its concern. The minutes also report that RBA staff presented a scenario showing the effects of a “modest” increase in inflation expectations on the inflation outlook. Unsurprisingly, it showed that this would make it “significantly” harder to get inflation back to target.
Related to this, a noteworthy shift in language was the comment, “Furthermore, members noted growing signs of a mindset among businesses that any cost increases could be passed onto consumers. In this environment, members assessed that tightening monetary policy at this meeting would help to mitigate the risk of an unwelcome rise in inflation expectations.” If any cost increases were being passed on, it is not clear why goods inflation has declined as expected but services inflation has not. Goods prices at the consumer level still embody a considerable fraction of domestic costs, including labour.
The concern about past-through of costs is reminiscent of a line from the February 2023 Statement on Monetary Policy Overview. “[The Board] will be closely monitoring how quickly declines in global costs are passed through to prices by businesses in Australia.” But that was about global costs, not domestic costs, which seem to have become more prominent in the Board’s thinking. The other awkwardness here is that it is households, not businesses, feeling most of the pressure of higher rates, and who in some cases stand to lose their jobs as tighter monetary policy takes effect.
The minutes were a bit more explicit about the path for the cash rate assumed in constructing the forecasts, incorporating “one to two increases in the cash rate”. These assumptions are based on market pricing and the forecasts of market economists. One of these “one to two” increases was delivered following the meeting, so there is only about half a rate rise assumed in the forecasts from here. Given the relatively small effect of single rate increases on inflation assumed in the RBA’s forecasting models, a further rate rise is not baked in. Rather, as we have said previously, the RBA will act if they observe further upward surprises on the outlook for demand and inflation. Unless they continue to be surprised in the way they have recently, they are likely to be on hold, but every meeting next year should be considered “live”. As the minutes acknowledged, the Board has low tolerance for any further upside surprises or delays in the return of inflation to the target range.
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