Cliff Notes: gauging confidence effects
Key insights from the week that was.
Australia’s Q1 CPI report was this week’s main event domestically, The key outcomes were slightly above consensus, the headline measure rising 2.4%yr (0.9%qtr) and the underlying trimmed mean measure 2.9%yr (0.7%qtr). Arguably there is less need to intensely scrutinise the detail now annual inflation is back in the RBA’s 2-3%yr target range, but it is worth highlighting the deceleration in market services inflation to 3.3%yr after being stuck at 4.2%yr throughout 2024 as it has been regularly cited by the RBA when discussing the upside risks to inflation. The current pulse is constructive too. On a six-month annualised basis, both headline and trimmed mean inflation are now in the bottom half of the RBA’s 2-3% target band, all but locking in a cash rate cut at the May policy meeting in roughly two weeks’ time.
As discussed by Chief Economist Luci Ellis in this week’s essay, many other indicators also warrant moving towards a neutral monetary policy stance. This includes our Q1 Westpac-DataX Consumer Panel update which revealed that Australians have now saved 80¢ from every extra dollar of income received from the tax cuts. With households opting to rebuild savings buffers – following a lengthy period of declining real per capita disposable income – there is limited scope for a ‘strong’ rebound in real consumer spending and instead larger downside risks to growth.
On the broader growth outlook, the latest update on trade reported a significant rebound in the goods surplus, up to $6.9bn in March. The data has been incredibly volatile over the past few months; but, overall, Australian goods exporters look to have benefitted from tariff front-running, setting up a positive contribution to GDP from net exports in Q1. Later this morning, we will also receive an update on retail sales volumes, another key guide for Q1 GDP, due in early June.
Offshore, US data made clear the downside risks from the Trump Administration’s trade policy.
US GDP disappointed expectations at the margin, declining 0.3% on an annualised basis. A key contributor to this deterioration was household consumption which slowed from a 4.0% annualised pace in Q4 to 1.8% in Q1 2025. This is despite continued robust gains in employment and wage growth. While the latest read for ADP employment points to downside risks for employment, the monthly gain decelerating from 147k to 62k in April, wage growth as measured by the employment cost index remained healthy in Q1, rising another 0.9%.
Coming back to the Q1 GDP detail, the other results were diverse and arguably susceptible to revision. In Q1, government spending declined and dwelling investment stalled, but business investment surged. The pull-forward of imports to get ahead of tariffs (from not only Australia but the world) was clear in the trade detail too, imports growing at a 41% annualised pace against exports' 1.8%. Another way to highlight the significance of the trade effect is to note that, while GDP growth declined from 2.4% annualised to -0.3% in Q1, annualised growth in domestic demand (which omits the impetus from the trade position) was only 0.5ppts lower in Q1 at 2.4% annualised.
Assessed in isolation, this outcome would imply there is no reason to be concerned over domestic demand in the US hence. But this activity and price data pre-dates April's tariff escalation. Consumer and business sentiment has since jolted lower.
On the final release for April, University of Michigan consumer sentiment is almost 30% lower than in December and most certainly due to concern over tariffs – the 1-year view for inflation now 6.5%, more than three times the FOMC’s 2.0%yr target. The Conference Board’s measure was similarly downbeat, particularly expectations which declined 12.5pts to only 54.4, the lowest level since October 2011. Respondents to this survey also showed acute concern over inflation, their 1-year inflation expectation now 7.0%yr, but also felt tariffs were likely to impact the labour market, the assessment of ‘jobs plentiful’ minus ‘jobs hard to get’ down to the second lowest level in this cycle. To date, labour market data has been consistent with a deceleration in employment growth, not outright decline; but, as made clear by the ADP reading above, risks are heavily skewed.
This risk is also evinced by the business surveys. Most notably, the ISM manufacturing employment index is currently almost 10pts below its 20-year average. The various Federal Reserve district business surveys also point to apprehension and concern over the outlook amongst a wide variety of US businesses. Tonight we will receive the April employment report, giving a full view of US labour market dynamics as President Trump’s tariffs were announced and implemented.
While of limited interest to markets this week, developments outside the US are worthy of close assessment. In contrast to the deterioration in US economic activity, Euro Area GDP surprised to the upside, rising 0.4% in Q1 to remain 1.2% higher over the year – a trend pace. Detail is still forthcoming, but European Commission economic sentiment and recent labour market data point to resilience across the region. Ahead, Europe is not only likely to receive financial inflows from those looking to diversify away from the US, but also additional tourism-related activity.
Albeit to a lesser extent, and likely with a lag, the same can be said of Asia. While news reports assessed the headline readings for China’s official PMI’s this week against the supposed 50 expansion/ contraction divide, manufacturing at 49.0 and services circa 50.4, it is best to instead assess current outcomes against the historic relationship between the PMIs and GDP.
Over the past decade or so, outcomes for the PMIs around the current level have occurred coincident to GDP growth at or above the 2025 target of 5.0%. This is before we take into consideration the stimulus being readied by authorities to support the consumer and housing, or the highly-accommodative stance of monetary policy. Asia more broadly will receive benefit from robust growth in China and India, but also has a strong pipeline of development opportunities before it.
Obviously the more developed an economy, the less power this pipeline has. However, even for a highly developed economy like Japan, the outlook remains constructive.
This week the Bank of Japan met and, unsurprisingly given current US policy uncertainty, left policy unchanged. Yet they still expect any shock to growth to prove modest and temporary, with activity growth forecast to accelerate from a downwardly revised 0.5%yr in FY2025 (from 0.7% in FY2024 and compared to January’s 1.1%yr forecast for FY2025) to 1.0%yr in FY2027. Core inflation (ex fresh food and energy) meanwhile is expected to hold either side of the BoJ’s 2.0%yr target in FY2025 and FY2026 and achieve it come FY2027. As such, the BoJ’s focus remains slowly normalising policy, targeting a policy rate of 1.0%. One 25bp hike remains likely by end-2025, but the last not until 2026.
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