Minutes of the Monetary Policy Meeting of the Reserve Bank Board
Melbourne - 1 April 2014
Glenn Stevens (Chairman and Governor), Philip Lowe (Deputy Governor), John Akehurst, Roger Corbett AO, John Edwards, Kathryn Fagg, Martin Parkinson PSM (Secretary to the Treasury), Heather Ridout AO, Catherine Tanna
Guy Debelle (Assistant Governor, Financial Markets), Christopher Kent (Assistant Governor, Economic), Jonathan Kearns (Head, Economic Analysis Department), Anthony Dickman (Secretary), Peter Stebbing (Deputy Secretary)
International Economic Conditions
Recent indicators for the global economy suggested that activity in Australia's major trading partners in the early part of 2014 had expanded at around its average pace. Similarly, the growth in world trade volumes over recent months had been at, or even a little above, the average growth of the past few years.
In China, data for the first few months of 2014 had suggested a continuation of the easing in economic growth that had started in the latter part of 2013. While this moderation was evident across a range of indicators, members noted that the data for the early months of the year were difficult to interpret given the Chinese New Year holiday. In March, China's national legislature set the target for GDP growth in 2014 at 7.5 per cent, unchanged from 2013. Members noted that the authorities' concerns about credit growth might constrain stimulus measures in the event that some support for growth was needed. The targets for inflation and money growth in China were also unchanged for 2014.
Recent data for the United States were consistent with further moderate growth in the economy, even though adverse winter weather conditions had had a noticeable temporary effect on activity in the March quarter in at least some parts of the country. Indications were that consumption and business investment had continued to rise in recent months, and the increase in payrolls employment in February was close to the average pace over 2013.
In Japan, domestic demand growth had remained strong, with activity picking up prior to the consumption tax increase at the beginning of April. Inflation had fallen back slightly as the effects of higher energy prices following the depreciation of the yen had begun to diminish. There had been small increases in base wages offered by some large companies in recent negotiations, the first increases for some time. In the rest of east Asia, growth had continued at around the average of the past decade, while economic conditions in India remained subdued. In the euro area, GDP grew modestly in the December quarter, the third consecutive quarter of positive growth, and more recent indicators pointed to a further expansion in the March quarter.
Global commodity prices had declined since the previous Board meeting. The spot price for iron ore had been volatile over recent weeks, while steel prices in China had declined and spot prices for coking and thermal coal were well below current contract levels. The fall in the price of steel in China over recent weeks was consistent with a softening in demand. At the same time, the supply of steel appeared to have been constrained by a tightening in credit conditions reflecting the Chinese authorities' concerns about pollution. Base metals prices had also declined, though rural commodity prices were a little higher.
Domestic Economic Conditions
Members began their discussion of the domestic economy with the labour market, which remained weak despite a strong rise in employment in February and an upward revision to employment in January. The unemployment rate had remained at 6 per cent in February and the participation rate had picked up. The ABS had cautioned that part of the change in employment and participation in the month had been attributable to larger-than-usual sampling variability. Members noted that, while the February data may have overstated the improvement in the labour market, it was also possible that the earlier data had overstated the weakness. Meanwhile, a range of indicators of labour demand suggested a modest improvement in prospects for employment, although the unemployment rate was still expected to edge higher for a time.
The national accounts, which had been released the day after the March Board meeting, reported that average earnings growth over the year to the December quarter 2013 had remained subdued. With measured growth in labour productivity around the average rate of the past two decades, nominal unit labour costs were unchanged over 2013.
Members recalled that the national accounts reported that GDP rose by 0.8 per cent in the December quarter and by 2.8 per cent over the year, which was a little stronger than had been expected. In the quarter, there had been further strong growth of resource exports, while growth in consumption and dwelling investment picked up a little and business investment declined. Public demand had made a surprisingly strong contribution to growth, but planned fiscal consolidation at state and federal levels was likely to weigh on public demand for some time.
Members observed that more recent economic indicators had generally been positive. Retail sales had increased by 1.2 per cent in January, continuing the pick-up in momentum that began in mid 2013. The Bank's liaison with firms suggested that, more recently, retail sales growth may have eased from this strong rate. Motor vehicle sales declined further in February, as had measures of consumer confidence over recent months, but the latter were still around their long-run averages.
Housing market conditions remained strong, with housing prices rising in March to be 10½ per cent higher over the year on a nationwide basis. Members noted that dwelling investment had increased moderately in the December quarter, with a pick-up in renovation activity, and that the high level of dwelling approvals in recent months foreshadowed a strong expansion in dwelling investment.
Data on business conditions released during the month had been somewhat mixed. Business investment fell in the December quarter, driven by a large decline in machinery and equipment investment and falls in engineering and non-residential building construction. While much of the decline appeared to have been driven by mining investment, non-mining business investment was also estimated to have declined in the quarter. More recently, non-residential building approvals had increased in January and, in trend terms, were at their highest level since 2008, with increases evident across a range of categories, including the office, industrial and ‘other commercial’ sectors. Some survey measures of business conditions had declined in the month, but most measures were around, or a bit above, average levels and also above levels recorded in mid 2013. Business surveys and information from the Bank's liaison suggested that businesses were still somewhat reluctant to commit to major investments, although the growth of business debt had picked up a little.
Members discussed the industry composition of output, investment and employment growth over the past two decades. They noted that employment growth had been spread across many industries, although the industries with the largest contributions to employment growth – particularly service industries – had not been the same industries with the largest contributions to growth of output and investment. Members noted that future employment growth was likely to continue to be concentrated in service industries. Data from the ABS capital expenditure survey indicated that a number of non-mining industries were expecting to increase their investment spending a little in the following financial year.
Members observed that financial markets had been relatively quiet over March. The main focus had been the timing of policy tightening by the US Federal Reserve and uncertainty about the economic outlook in China.
The Federal Reserve further reduced its monthly rate of asset purchases at its March meeting by US$10 billion, as expected. At the same time, the Fed had revised its forward guidance framework, removing any reference to unemployment thresholds and instead indicating that policy rates were anticipated to remain unchanged for a ‘considerable time’ after the likely end of asset purchases later this year, although Fed officials also increased slightly their expectations for the future path of the policy rate. The market consequently brought forward its expectation of the first rate rise to the middle of 2015.
Members noted that government bond yields in the major markets of the United States, Germany and Japan were little changed over the month, while those in euro area periphery countries continued to decline significantly, with yields on government bonds in Spain and Italy falling to around their lowest levels since late 2005. Government bond yields in emerging markets had generally declined, with movements in yields dependent on perceptions about prospects for individual economies.
In Australia, longer-term government bond yields were little changed over the past month, with some rise at shorter maturities. Members also noted that the Australian Office of Financial Management had issued $7 billion of a new April 2026 bond – the largest on record – with very strong demand from both domestic and overseas investors. The latest data on ownership of Australian debt showed that foreign holdings of Commonwealth Government Securities were around two-thirds of the total, compared with around one-third for state government debt.
Credit markets were generally quiet over the month with corporate bond issuance in developed markets continuing at a similar pace to that in recent years, although issuance in emerging markets had declined over the past year, mainly reflecting less issuance by Chinese non-financial corporations. Credit risk in the Chinese corporate bond market had received more attention from investors and commentators over the past month after authorities allowed the first default in the onshore Chinese market to occur. In Australia, corporate bond spreads remained around their lowest levels since 2007/08 and issuance continued to be easily absorbed by the market, including issuance by lower-rated corporations and at longer maturities.
Global equity markets were little changed over the month, and the Australian equity market moved broadly in line with developments elsewhere. The experience across emerging markets was mixed, with Russia showing a large fall over the past month; however, equity markets in several other emerging market economies had recovered some of the losses that had occurred over the previous year.
Members observed that the major currencies had changed little since the previous Board meeting. The renminbi depreciated by 1 per cent against the US dollar, and the People's Bank of China had widened the daily trading band for the exchange rate from ±1 per cent to ±2 per cent in order to encourage greater two-way movement in the exchange rate. The Russian rouble had appreciated over the month as the Russian central bank continued to intervene on a relatively large scale in the foreign exchange market.
The Australian dollar had appreciated, partly in response to domestic economic data, and it was now close to the level in November 2013, although on a trade-weighted basis the exchange rate was still about 12 per cent below its peak a year earlier. Members noted that the New Zealand dollar was currently at levels equivalent to historical peaks against the Australian dollar, following the tightening of monetary policy by the Reserve Bank of New Zealand.
Members completed their discussion of financial markets by noting that money market rates in Australia continued to imply that the cash rate was expected to remain unchanged over the remainder of the year.
Considerations for Monetary Policy
Overall, growth in Australia's major trading partners looked to have remained around average in the early months of 2014, although there were signs that growth in China had eased. Domestically, growth over 2013 had been below trend pace. Members noted that while falling mining investment and weak public demand were set to constrain growth for some time, there were early promising signs in other parts of the economy. In particular, a strong pick-up in dwelling investment was in prospect and there was some evidence that consumer demand had strengthened a little. Indicators for exports remained strong, while those for business conditions were generally higher than they had been in 2013. However, many businesses appeared to be waiting for an increase in current demand to occur before they were willing to increase investment spending.
Information on wages pointed to moderate growth, which was expected to help contain domestic inflationary pressures. While there had been some tentative evidence of a slight improvement in a number of labour market indicators, conditions would need to improve further before the unemployment rate could be expected to decline.
At recent meetings, the Board had judged that it was prudent to leave the cash rate unchanged and members noted that the cash rate could remain at its current level for some time if the economy was to evolve broadly as expected. Developments over the past month had not changed that assessment. There had been further signs that low interest rates were supporting domestic activity. Members noted that the exchange rate remained high by historical standards. Despite commodity prices falling further over the past month, the exchange rate had appreciated a little further. While the decline in the exchange rate from its highs a year earlier would assist in achieving balanced growth in the economy, this would be less so than previously expected given the rise in the exchange rate over the past few months.
On the basis of this assessment, the Board's judgement was that monetary policy was appropriately configured to foster sustainable growth in demand and inflation outcomes consistent with the 2–3 per cent inflation target. The Board would continue to monitor developments in the economy, with members noting that, on present indications, the most prudent course was likely to be a period of stability in interest rates.
The Board decided to leave the cash rate unchanged at 2.5 per cent.