Summary of the April RBA monetary policy meeting

International economic conditions

  • Global economic conditions have improved over 2017
  • Growth in industrial production has increased
  • Business conditions in manufacturing and services sectors at high levels
  • Significant increase in the growth of global merchandise trade volumes, driven by stronger demand from east Asia and the US
  • Merchandise imports to some emerging markets has stopped falling
  • Increased demand for trade goods has benefitted merchandise exports from Australia and Asian (excluding China) and emerging economies.
  • Spare capacity in the labour market of highly advanced economies will continue to decline as GDP growth expects to be above potential for 2017
  • Global inflation has increased due to rise in oil prices over 2016. However, oil prices have been relatively stable since late 2016 and core inflation rates have remained low in most economies. This means headline inflation could decline unless a reduction in spare capacity generated greater inflationary pressures.
  • Accommodative financial conditions and greater public spending have strengthened the Chinese economy. Growth in dwelling investment has increased over 2016 and growth in investment in the manufacturing sector stable since mid-2016. Growth in infrastructure investment remains strong
  • In the USA, low borrowing costs and improvements in the labour market have increased household consumption and thus expenditure growth. Although the risk of protectionist policies remains under the Trump administration, investment intentions of the business sector have also risen sharply.
  • Prices of iron ore, oil, and coking coal are well above the lows of 2016.
  • Iron ore production costs have declined over the past five years and Australia and Brazil iron ore mines account for most low-cost iron ore production.
  • Although Chinese producers had costs that were higher than current iron ore practice, they remain open due to their vertical integration with steel mills, which are state-owned and account for a significant share of employment.

Domestic economic conditions

  • Conditions in the labour market are weaker than expected
  • Unemployment rate increased to 5.9% in February and measures of underemployment remain high
  • Ongoing spare capacity in labour market is contributing to low wage growth outcomes
  • Employment increased 1% in the year to February, all in part-time.
  • Adjustment of the labour market to changes in locations and industries that are driving employment growth has not boosted measures of structural unemployment significantly
  • GDP expected to have expanded at moderate rate over March quarter
  • Most large projects associated with expansion of iron ore and coal production capacity have been completed. Thus the remaining decline in mining investment over the following year will reflect the completion of liquefied natural gas (LNG) projects. The high and rising supply of LNG into the Asian market has implications for spot prices and Australian export volumes.
  • Household’s perceptions of personal finances have declined to below average levels, contributing to weaker household consumption
  • retail price inflation remains subdued – partly due to strong competition across the industry
  • Growth in housing credit to owner-occupiers has moderated slightly over the past 6 months, while growth in housing credit to investors has increased (mainly in NSW and Victoria)
  • Growth of housing credit to investors initially moderated in response to announcement by APRA of 10% benchmark for investor credit growth in late 2014
  • share of lending with high loan-to-valuation ratios has fallen
  • growth in investor credit has increased steadily since early 201 despite bank’s tightening of lending standards and, on average, increases in the margin between interest rates on investor housing loans and those on loans to owner occupiers.

Financial stability

  • Risks relating to household debt and the housing market have increased over late 2016 to early 2017
  • Credit to the household sector has been growing modestly in a historical context, however, credit growth has been faster than income growth, and the aggregate debt-to-income ratio for households has increased
  • Financial stress within households has been maintained, however, through the use of low-interest rates and improved lending standards. This has supported household’s ability to service debt and build repayment buffers.
  • Risks to financial stability and macroeconomic outcomes ca be mitigated through realistic assessments of household expenses and prudent lending standards
  • APRA and ASIC have supported prudent lending practies though focusing on interest-only lending, serviceability assessments and responsible lending practices
  • APRA’s recent guidance has included limits on the share of interest-only loans in new housing loans and requires banks impose strict limits on new interest-only lending at high loan-to-valuation ratios.
    • Interest only lending: is a loan in which, for a set term, the borrower pays only the interest on the principal balance, with the principal balance unchanged
  • In an Australian context, Interest-only loans allow investors to take the greatest advantage of features of the tax system while the availability of offset accounts provides some owner-occupiers with opportunities to manage liquidity risks that might be associated with irregular income
    • An offset account is a transaction account linked to an eligible home or investment loan. The money you have in this account could offset the amount you owe on that loan, and you’ll only be charged the interest on the difference.
  • APRA’s recent review of commercial property lending found instances of weak underwriting standards and poor monitoring of risk profiles among lenders
  • Valuations of houses in Sydney and Melbourne were high and posed risk to leveraged investors if prices were to decline sharply
  • While growing risk faces the household sectors, vulnerabilities in the non-finanical business sector remain low
  • Outside Western Australia, business failure rates have declined. Profitability has been supported by higher earnings for resource-related firms, following the increase in commodity prices
  • Gearing ratios and measures of the strength of business’s balance sheets have been around historical averages
  • Banks remained highly profitable in the second half of 2016 and asset performance remains unchanged, with their capital ratios and liquidity structures having strengthened
  • Banks have slowed the growth in their exposure to commercial property and have also taken steps to reduce the risk profile of their balance sheets, having divested higher risk and low return assets in recent years
  • If interest rates rose quickly or the outlook for growth in some economies was reassessed, the high prices reached by some assets could reverse
  • Performance in the European banking sector remained weak, due to the high levels of non-performing loans, relatively high costs bases and other legacy issues. Low profitability impeded these bank’s ability to improve their capital positions
  • In china, debt levels have continued to grow rapidly, especially debt acquired through less regulated channels and higher risk borrowers. Some measures of loan performance had deteriorated. Slowing growth in profits in some industries could impinge on some borrowers capacity to service their debts.

Considerations for monetary policy

  • Global growth was rising, broadly based across both developed and emerging economies
  • Growth in both global trade and industrial production had increased
    • Industrial production is a measure of output of the industrial sector of the economy. The industrial sector includes manufacturing, mining, and utilities.
  • Indicators of global consumer and business sentiment are above average
  • Reductions in spare capacity are expected in major advanced economies. This could lift inflation.
  • Headline inflation has increased in most economies, reflecting higher oil prices over 2016
    • Headline inflation is a measure of the total inflation within an economy, including commodities such as food and energy prices (e.g., oil and gas), which tend to be much more volatile and prone to inflationary spikes
  • Improvements in global economic conditions has contributed to higher commodity prices, which was expected to improve Australia’s national income. However, since iron ore prices have fallen, our Terms of Trade is still likely to decline in the future period
  • Australian economy continued to grow moderately at beginning of 2017, supported by low-interest rates
  • Indicators of household consumption are weaker than expected, consistent with softer conditions in the labour market
  • Although forward-looking indicators of labour demand suggest an increase in employment growth, this has been true for some time without any improvements in labour market conditions
  • Measures of business confidence are at or above average, and non-mining business investment has risen over the prior year in parts of the country less affected by the mining investment transition
  • Depreciation of exchange rate since 2013 has assisted the economy’s transition
  • Additional supply of apartments scheduled to come over following year are expected to put downward pressure on growth in apartment prices and rent
  • Growth in housing credit outpaced growth in household incomes
  • Less reliance on interest only housing loans expected to increase resilience of household balance sheets
  • Wage growth and broader measures of labour cost pressures remained subdued and competition in the retail sector continued to be strong

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