The Governor of the Reserve Bank has announced the intention to reduce the weekly purchases from $5 billion to $4 billion and not to extend its Yield Curve Target from the April 2024 bonds to the November 2024 bonds – two clear signs that policy is tightening.
As Westpac foreshadowed the Governor has announced that the Bank will move from a policy of fixing the full target level of bond purchases to using a flexible week by week approach. It will maintain the current 80% AGS/ 20% semi government ratio.
However the policy is a tighter approach than we had expected. Westpac expected that the Bank would maintain its $5 billion purchase pace until the December Board meeting whereas the Bank has committed to a $4 billion weekly target effective until November 11.
Our expectations entailed a first tranche program of $70 billion compared to the stated program of $40 billion. However we do expect that the program will be extended beyond November.
That date will be ten days after the November Board meeting and will follow the November Statement on Monetary Policy where the Bank will have refreshed its forecasts.
We fully anticipate that those revised forecasts will support a reduced pace of purchases.
While we have argued that we expect the Bank will begin its tightening cycle in the March quarter 2023 we anticipate that November 2021 will be too early to curtail the bond purchase program altogether and it will continue into 2022 at a pace that will be gradually stepped down from the $4 billion per week.
We expect that the latest date for maintaining the program will be around mid year.
With the Governor still referring to “pick up in inflation and wages growth … likely to be only gradual and modest” the case is not strong for a full curtailment of the program in November.
We expect that the Federal Reserve will announce its intention to begin tapering its bond purchases in September with a lift off date in early January carrying through to mid 2022.
The FED’s actions, once begun, will give the RBA cover should it decide to curtail its purchases even earlier than our expectation of around mid 2022.
The decision to not extend the Yield Curve Target program to the November 2024 bonds, which we foreshadowed, is as we noted in our preview, a decision to further tighten policy.
Giving up the option to extend the purchases at 0.1% to a 3 year 4 month bond from a 2 year 9 month bond is effectively tightening policy.
We also foreshadowed that the Governor would change his guidance from “ This is unlikely to be 2024 at the earliest” to exclude “at the earliest”.
He did that but went further with “The Bank’s central scenario for the economy is that this condition will not be met until 2024.”
A “central scenario” is a less confident assessment than “unlikely” while it was always going to be necessary to maintain the 2024 assessment given that the Bank will still be purchasing the April 2024 bonds at the current cash rate of 0.1%.
The Governor has committed to further comments and a Q and A from 4 pm today.
That will be the best time to measure his views on the economic outlook.
In the current Statement the Bank has maintained its forecasts from the June Statement although has slightly lifted its forecast for annual headline inflation from” above 3%”to 3.5%.”
The commentary on the labour market is much more bullish than in June referring to “welcome decline in underemployment and labour force participation around record highs”.
There is no change in the rhetoric around the housing market, “ the Bank will be monitoring trends in housing borrowing carefully and it is important that lending standards are maintained.”
Conclusion
This is a more hawkish Statement than we had expected highlighted by the decision to taper in September; the other hawkish aspects around YCT and language were as expected.
Nevertheless, this policy change is consistent with our view that the first rate hike will come in March 2023- much earlier than the current “central scenario”
While the decision to move to a weekly purchase program was foreshadowed in our recent writings we are somewhat surprised by the decision to taper the weekly purchases.
However we expect that after November there will continue to be a further reduced purchase target extending into 2022 before a considerable break of 9–12 months before the first rate hike in the March quarter 2023.
