Forget the details for a moment and let’s have a look at the big picture, tops down view of the Australian economy.
- GDP growth 2.3%. It’s been below 3% for almost 4 years and with trend growth widely assumed to be above 3%, there is a clear and entrenched under-performance.
- Underlying inflation 2.5%. It’s been around 2.5% - the mid-point of the RBA target range – for almost two years. In the second half of 2011, underlying inflation in annualized terms was just 2.0%. Inflation is low.
- Employment growth has slowed to around zero, having averaged 200,000 per annum for each of the past 5 years. There are no signs of any upturn in employment in the most recent data.
- House prices have been falling since the end of 2010 and are down around 5% from that peak. In concert with a flat stock prices – which are still some 35% below their peak – there are clear signs of asset price deflation and falling wealth.
The economy is problematic at best, a point that policy makers need to address.
Fiscal policy settings are clearly restrictive and should remain so. The government is delivering cuts in outlays and the turn in the budget balance underway now is the most significant move delivered since at least the 1960s. This is entirely prudent and sensible, particularly in a climate where sovereign debt issues are dominating market sentiment and where, as Treasury Secretary Martin Parkinson recent suggested, future surpluses will be difficult to achieve given the structural breakdown in the tax base since the GFC. Let's stay on the path to surplus and let the other policy arms under ping growth.
The RBA judges monetary policy to be neutral, which is probably fair and recently it has been reluctant to move monetary policy to an even mildly accommodative stance. That will change. With the above set of circumstances in play, it is pretty easy to work out the likely direction of the next move interest rates and it isn't up.