Key insights from the week that was.
Starting in Australia, it was unsurprising to see the RBA Monetary Policy Board leave the cash rate unchanged at 4.10%. The decision statement was little changed from February given the relatively quiet and well behaved data flow. In the subsequent press conference, Governor Bullock once again noted that the Board still does not “endorse” the market path for future cash rate reductions.
Post-meeting communications were centred on the considerable two-sided risks at hand. On consumption, the Board notes “there is a risk that any pick-up… is slower than expected” which softer growth in retail sales in February gives credence to – our take on the broader household spending indicator will be released later today on Westpac IQ. However, the Board also stated that “labour market outcomes may prove stronger than expected”, a risk highlighted by the latest job vacancies data which shows that the labour market remains relatively tight. “Uncertainty about the outlook abroad” was certainly seen in the latest trade data, even though it pre-dates this week’s developments.
Given the highly uncertain backdrop and competing risks, the Board will remain focused on actual inflation outcomes. Our Q1 CPI preview provides more detail behind our forecast for trimmed mean inflation to move back into the target band on an annual basis (2.8%), and below the mid-point on a six-month annualised basis (2.3%). If inflation prints as we expect, we are confident that the RBA Board will deliver another 25bp rate cut in May.
Before moving offshore, a final note on housing. The post rate cut bounce in dwelling prices looks to have extended into March, up 0.4% following a 0.3% gain in February. While we still expect momentum to remain positive this year, we doubt there is much scope for the current pace to strengthen further. Longer-term prospects depend critically on the outlook for supply; the latest data dwelling approvals is mildly constructive on this front, having risen 26% over the past year, though this is still well short of the required pace to reach the Housing Accord target.
Offshore, the focus remained on US tariffs all week. On April 2, “Liberation Day”, US President Donald Trump announced the immediate implementation of reciprocal tariffs. While Trump described these rates as being based on the US’ country-by-country estimates of monetary and non-monetary barriers US firms face in other countries, economists were quick to calculate the tariffs are half of each nation’s trade surplus with the US divided by total imports to the US. For China and Taiwan, it will be 34% and 32%; for India 26%; for Europe 20%; and for the UK, Australia and New Zealand, 10% – the lowest possible rate, regardless of if a country imposes any barriers to US firms or not.
While of limited significance for global growth, small developing markets will be particularly hard hit; Cambodia as an example faces a 49% tariff rate. It is expected that these tariffs will boost revenues and entice manufacturing investment in the US, but the cost of doing so and immense uncertainty over the policy outlook is likely to hold many firms back.
In response to these tariffs, ECB member Nagel said the ECB needs to “reassess” the current situation, with “the US administration’s decision to impose tariffs endanger[ing] global economic stability.” The European Commission President von der Leyen noted that that the EU is “prepared to respond” to US tariffs, “already finalising a first package of countermeasures in response to tariffs on steel…[and] now preparing for further countermeasures”. China is also likely to respond swiftly – the response and counter-response by the US likely to prove a key theme next week.
We remain of the view that the US is most at risk from its own measures. Early signs of weakness in their economy can already be seen. The ISM manufacturing PMI index dropped 1.3pt to 49.0. The detail of the survey highlighted a rapid adjustment to demand, the new orders index falling 3.4pt to 45.2, the lowest level in almost two years, almost 10pts below January’s level. Companies also reported declining production volumes, falling headcount and rising inventories.
On the services side, the headline index declined from 53.5 to 50.8 in March. Business activity edged higher in the month, from 54.4 to 55.9; but new orders declined, from 52.2 to 50.4, and the backlog of orders were worked through aggressively, this index declining from 51.7 to 47.4. The decline in the employment index was most notable however, from 53.9 to 46.2. At face value, this result and that of the manufacturing sector points to outright declines in employment in coming months.
Tonight, the March employment report will be closely scrutinised. To date, it has been sentiment that has held back spending. If the labour market deteriorates, the US could find itself struggling through a persistent period of contraction, bearing in mind that the Atlanta Federal Reserve’s nowcast of GDP suggests activity declined 2.8% annualised in Q1, albeit largely as a result of a pull-forward of imports to get ahead of the impending tariffs.
Ending on a positive note, China and Asia have considerable capacity to offset the negative consequences of US trade policy in the short term through stimulus and by enticing private investment related to the region’s ongoing economic development. Into the medium-term, continued growth in the region’s population, industry and household incomes will deepen exposed nations’ export markets, reducing the significance of the US market to the world. Australia is well positioned to benefit from this growth and economic development.
