Industry Focus

PROPERTY Australian interest rates BILL EVANS, CHIEF ECONOMIST, WESTPAC Rates on hold, but RBA's growth forecast cut ... ... implying more stimulus may be required. As expected the RBA Board decided to leave the cash rate unchanged at 2.5% at its November meeting. In its November Statement on Monetary Policy however, the Bank lowered its growth forecast for 2014 from 2.5%–3.5% to 2%–3%. That is quite significant. These forecasts are now consistent with our own. The Bank maintained its forecast for growth in 2013 at 2.25% and growth to June 2014 at 2.5%. This means that, whereas in August the Bank expected growth in the second half of 2014 to reach a comfortably above trend pace of about 3.6%, it is now expecting growth in 2014 H2 of a still below trend 2.5%. If a central bank is forecasting below trend growth so far out then it should be considering the possibility that the economy needs further policy stimulus. That is consistent with the description of discussions at Board level in the penultimate paragraph in the Overview to the Statement that: "it was appropriate to hold the cash rate steady, but not to close off the possibility of reducing it further, should that be needed to support economic activity consistent with the inflation target". Downgrade centred on business investment ... The most important reasons behind the downgrade in the growth forecasts are around business investment. Following further liaison with mining companies, the Bank has downgraded its forecasts for mining investment with "some large projects delayed or looking less likely to proceed". It appears that the Bank has also revised down its forecasts for non-mining investment with: "surveys of firms' intentions suggest that there will be little growth in non-mining business investment over the next year or so". This is quite a significant development in the Bank's assessment of Australia's growth prospects. Various communications from the Bank have emphasised the importance of the rebalancing of business investment towards nonmining sectors. It appears that, despite the recent lift in business confidence measures, the Bank is unconvinced that this will lead to a lift in investment in 2014. ... with mixed adjustments to consumer and jobs outlook. On the other hand, there has been a modest uplift in the forecast for consumer spending due to strengthening conditions in the housing market with increased turnover and prices. However, the outlook for the labour market and incomes has been revised down: "the profile for employment has been revised down slightly with the unemployment rate expected to continue to rise for the next year or so"; "wage pressures are likely to remain limited". This lift in consumption spending is also expected to be boosted by a modest decline in the savings ratio "towards the lower end of the range seen over recent years." House price gains viewed positively. There is little emphasis on risks around a housing bubble. The boost to house prices is seen as promoting new construction activity. In discussing risks to their forecasts, the concerns would be around a return to increasing household leverage, "although to date growth of housing credit overall remains moderate". A big drag on demand is seen to be the public sector with the growth in government spending being about one third of the normal pace: "growth of public demand over the next few years will continue to be the weakest seen for at least 50 years". Lower AUD could come to the rescue ... ... but dovishness of these forecasts ... ... make us comfortable retaining our rate cut view. 14 Industry Focus Another reason for the lower growth forecasts was around the Australian dollar. The forecast AUD was 5% higher than in August. The Bank notes, "a further depreciation similar in magnitude to that seen earlier this year could be expected to see growth return to trend, or even above trend, sooner than forecast". This is a decidedly more dovish Statement than was expected. While we anticipated the Bank using fairly moderate language around prospects for the economy in order not to 'talk up' the AUD, we did not expect such a growth downgrade. The concerns around the sharper than expected slowdown in mining investment; the weak outlook for employment and wages; a clear downward revision in the outlook for non-mining investment; and acceptance of headwinds coming from public spending support our view that the Bank continues to maintain an easing bias. Concerns around a 'housing bubble' seem limited and, quite frankly, given the multiple headwinds discussed above, a wealth and construction-based boost to activity from the housing market seems to be, from the Bank's perspective, the 'only hope' for the rebalancing of the economy in 2014. Markets have summarily dismissed our call for lower rates in 2014. With the Bank forecasting below trend growth in 2014, revising down the momentum in the second half of 2014 from 3.6% to 2.5%, we are comfortable with our 'out of market' call. We are also pleased to see that the Bank has a similar growth outlook to our own forecasts. We continue to anticipate a further rate cut of 0.25% in February to be followed by a further move in May.

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