Cliff Notes: Waiting for a Clear Signal

Key insights from the week that was.

In Australia, a scant local data calendar left participants mulling over the possibilities for next week’s crucial Q2 CPI update. Our preview provides the detail behind our forecasts. Food, health and housing are expected to be the main contributors to our headline inflation forecast of 1.0% (3.8%yr); housing is also expected to be critical for underlying trimmed mean inflation (0.9%; 4.0%yr). While market appetite for an imminent rate hike has waned since the last monthly inflation update – from a 50% chance of an August increase to circa 20% currently – market participants’ perspectives are diverse. In our view, if the data print as we expect, it leaves the door open for the RBA rate cutting cycle to begin in November, as has been our forecast for some time. However, significant uncertainty remains around various components, particularly with respect to energy rebates and services inflation. The RBA understands this, hence any deviation from expectations will need to be closely assessed to determine its policy implications.

Responding to the run of significant events experienced in recent weeks and with considerable uncertainty over local and international developments into year end, Chief Economist Luci Ellis’ essay this week provides a framework for assessing the implications of news and events, from the detail of a given data release to structural developments across the global economy.

Moving offshore, the Bank of Canada cut rates by 25bps to 4.50% as expected at their July meeting. In the statement and press conference, there was a clear focus on the need to balance shifting economic risks, with inflation pressures abating and downside risks for activity becoming more evident. The Governing Council seem confident in inflation’s downtrend, noting excess capacity in the economy and that the breadth of price pressures is back ‘near its historic norm’. Inflation projections were revised down for 2025 and 2026 to 2.0% from 2.1%, but in 2024 inflation is expected to remain above target at 2.4% (previously 2.2%). Excess supply is appearing in the labour market as population growth holds around 3.0%. The BoC also noted that ‘job seekers [are] taking longer to find work’. Activity growth is expected to be weak at 1½% through the first half of the year, a downgrade from their prior forecast. However, it should pick up in 2025 and 2026, absorbing excess capacity. The Governing Council will remain data dependent. But, with slack emerging across the economy and policy still contractionary, additional rate cuts are anticipated into year end and through 2025.

South of the border, US GDP re-accelerated in Q2, largely as we had anticipated. Growth came in at 2.8% annualised in Q2, twice Q1’s 1.4% gain. Underlying the headline result, private demand growth was broadly the same in Q1 and Q2, respectively 2.5% and 2.7%, modestly below the 3.0% average of the decade prior to the pandemic. At 2.3% annualised, consumption growth was also consistent with its pre-pandemic average of 2.4%; though, for the past six months, growth in this sector has relied solely on services – a 2.8% annualised average compared to circa 0% for both durable and non-durable goods. Dwelling and structures investment both pulled back in Q2, but are still roughly 5.5% higher over the year – robust outcomes given the challenges posed by construction and finance costs. Equipment investment was very strong in Q2 at almost 12% annualised; however, this follows an extended period of weakness, with cumulative growth of just 1.1% over the prior two years. Intangibles investment growth remains robust, but is sub-par versus the pandemic years and the decade prior. We continue to expect the FOMC to deliver their first cut in September and another by year end. Next week’s July meeting will provide an update on their assessment of risks.

In China meanwhile, the PBoC eased policy settings this week. On Monday, they reduced their 7-day reverse repo rate by 10bps and commercial banks lowered the loan prime rate moments later. This was followed by a US$200bn increase to the medium-term lending facility – the biggest injection since January. Finally, the PBOC reduced the rate on the MLF by 20bps to 2.3%. These initiatives are marginal supports for the property sector and the consumer. Further support is likely coming. But with confidence as weak as it is, conditions are only likely to improve slowly, and downside risks will remain.