Statement on Monetary Policy – May 20253. Australian Economic Conditions

3.1 Domestic economic activity

Australian GDP growth over the December and March quarters together looks to have been broadly as expected, though recent data suggest there was slightly less growth in household spending in the March quarter than anticipated in the February Statement.

GDP grew by 0.6 per cent in the December quarter, a touch above our expectation of 0.5 per cent in the February Statement, supporting our view that a modest recovery in domestic demand was underway. Public demand accounted for around half of GDP growth in the quarter (Graph 3.1). Recent growth in public consumption has been driven by spending on social benefit programs like the National Disability Insurance Scheme (NDIS) and aged care as well as electricity subsidies to households. Continued strength in public investment has reflected spending on defence and public infrastructure projects.

Timely data suggest that GDP growth in the March quarter is likely to have been a little weaker than forecast in the February Statement. Part of this reflects temporary effects from flooding in New South Wales and Queensland (see Box B: The Impact of the Recent Floods on the Australian Economy). Abstracting from the effect of the floods, household spending growth looks to have been slightly weaker than expected (see below for more details). Partial data suggest net trade will detract from GDP growth in the quarter, driven by solid growth in imports and a decline in services exports.

Household spending continued to grow in early 2025, though by a little less than expected in the February Statement.

Household consumption grew by 0.4 per cent in the December quarter of 2024, broadly in line with our February forecast. In underlying terms (abstracting from electricity subsidies), household consumption growth was slightly stronger at around 0.5 per cent. Growth was broadly based, with increases recorded across discretionary and essential spending categories. Some of the strength in consumption in the December quarter likely reflected price-sensitive consumers concentrating their spending in promotional periods. The further increase in real incomes in the quarter, driven by labour income, also supported spending growth.

While growth in underlying household consumption had been expected to moderate in the March quarter as promotional periods ended, timely indicators suggest it may have eased by a little more than anticipated in the February Statement. The nominal ABS household spending indicator pointed to a decrease in spending on promotion-affected categories in the March quarter, as expected. However, growth in other discretionary household consumption categories (such as eating out) also looks to have eased, which could suggest that momentum in household consumption growth is a little weaker than previously judged. Part of the easing in aggregate growth also reflects the effects of recent flooding, which is expected to have been temporary. Overall, underlying household consumption growth is now expected to have eased to 0.2 per cent in the March quarter, a little slower than the 0.4 per cent expected in the February Statement (Graph 3.2). This is broadly consistent with liaison reports that retail conditions have not picked up much since late 2024. Contacts continue to indicate that consumers remain price sensitive, with this behaviour expected to persist for some time.

While there are few data available for the June quarter, recent international developments have had only a modest impact on timely indicators of domestic activity.

There is limited economic activity data available for the June quarter to date and liaison contacts generally report that it is still too early to assess the likely implications for their business from recent international developments (see Box C: Insights from Liaison). The direct effects of announced US tariffs on Australian exports are expected to be small, though there are a range of indirect effects that could affect Australia’s trade (see Box A: How Might Tariffs Affect Australian Trade?).

Australian economic activity could also be affected by increasing uncertainty. The escalation of trade tensions has increased policy uncertainty in Australia in the June quarter (Graph 3.3). High levels of uncertainty can lead firms to delay investment decisions that would be costly to reverse, because it increases the value of waiting for additional information. Similarly, some households may delay large purchases and increase precautionary savings. There is some empirical evidence, including for Australia, that high uncertainty leads to a decline in business investment, with negative but smaller effects on employment, household consumption and inflation.¹

The recent escalation in trade tensions so far appears to have had a limited impact on consumer sentiment in Australia, which remains above its post-pandemic lows. Consumer sentiment indicators had risen solidly over the second half of 2024, supported by the pick-up in real household incomes, but have remained relatively stable since the start of the year (Graph 3.4). Since the start of April, when global trade tensions escalated sharply, consumer sentiment has been more resilient in Australia than in a number of other advanced economies (see Chapter 1: In Depth – Global Economy and Financial Markets).

Business sentiment also shows little sign of having been affected by global developments, though it remains below long-term averages and uncertainty about the outlook has increased. Surveyed business conditions, which have trended downwards since mid-2022, declined slightly in April (Graph 3.5). Business confidence (a forward-looking indicator) edged up slightly in April despite global developments, though it remained negative. Prior to April, firms in surveys cited wage costs, consumer demand and margin pressure as key factors contributing to weaker business conditions and confidence.

Conditions reported by firms in the liaison program have been relatively steady over recent months. Few firms in the RBA’s liaison program have reported any changes to their investment plans in response to recent international developments. Some liaison contacts have continued to cite elevated input costs (particularly in the construction sector) as a key factor weighing on investment intentions. Firms also report that investment in large renewable energy projects continues to be pushed back. Nevertheless, investment related to the energy transition, together with investment in computer software and data centres, was an important driver of overall business investment over the past year. This was offset by weakness in machinery and equipment and buildings investment to leave business investment broadly flat over 2024.

Housing market conditions have been stable in recent months after easing over most of 2024.

New dwelling investment was steady in the December quarter and was broadly in line with its average level over the past few years. Weak commencements and capacity constraints in the finishing stages of the construction process held back activity, but this weakness was broadly offset by projects in the pipeline moving closer to completion. Building approvals for higher density construction have picked up since the start of 2024, although the level of approvals and commencements remains low on a per capita basis; liaison contacts have noted that high costs challenge the feasibility of some higher density construction. Detached commencements decreased in the December quarter after increasing earlier in the year, reflecting subdued demand for new home sales.

Housing price growth has been steady at a relatively low rate. The reduction in the cash rate in February is yet to have a noticeable impact on aggregate housing market indicators. After seasonal adjustment, housing prices increased at an annualised rate of around 1 per cent in April, similar to growth rates observed since October and in line with expectations in the February Statement (Graph 3.6). While housing prices typically respond relatively quickly to interest rate changes, the speed and size of the response depends on the expected path of future interest rates and other macroeconomic variables.²

3.2 Labour market and wages

Overall labour market conditions and wages growth have been broadly as expected in the February Statement.

Conditions in the labour market have been steady in recent months. The unemployment rate has been little changed so far this year, as anticipated in the February Statement. Some labour market indicators that appeared to be tightening in late 2024 have since stabilised. Measures of job ads – which tend to lead changes in the unemployment rate – had been steady or eased only slightly leading up to the escalation of trade tensions in early April and have remained broadly stable since. With labour market conditions steady recently, we continue to assess that the labour market is tight, although there is considerable uncertainty around estimates of full employment (see section 3.3 Assessment of Spare Capacity). The rate at which workers move between jobs has continued to trend downwards over recent quarters, which might indicate less upwards pressure on wages growth and inflation than implied by the unemployment rate. Nevertheless, recent wages growth outcomes have been in line with expectations in the February Statement, though growth in unit labour costs remains high and has been stronger than expected.

Many labour market indicators have stabilised recently.

The unemployment rate was 4.1 per cent in April, as expected in the February Statement, and is little changed since mid-2024 (Graph 3.7). The underemployment rate had been declining over the second half of 2024 but has stabilised since the start of the year at 6.0 per cent, close to its level in late 2022. Other measures of labour underutilisation, including the hours-based underutilisation rate – a broader measure of spare capacity – and the medium-term unemployment rate have largely tracked sideways since the start of the year.

Employment growth has been solid since the start of the year, notwithstanding monthly volatility. The employment-to-population ratio rose to 64.3 per cent in April to be around its level in late 2024. Industry-level data (available up to December 2024) suggest that the non-market sector, which includes the health care and education industries, continued to support aggregate year-ended employment growth through to late 2024 (Graph 3.8). Year-ended employment growth in the market sector has recovered slightly from subdued levels, consistent with the gradual pick-up in GDP growth. The participation rate – the share of the working age population either employed or searching for a job – increased to 67.1 per cent in April to be around historical highs. The longer run trend of higher female participation continues to support recent participation rate outcomes.

Timely indicators of labour demand suggest that the recent escalation in global trade tensions has not yet had a material impact on the Australian labour market (Graph 3.9). Following the escalation in trade tensions in April, measures of job advertisements and households’ unemployment expectations have been broadly stable. Contacts in the RBA’s liaison program have not generally changed their hiring intentions in response to these global developments. We will continue to monitor these indicators closely in the period ahead, as the impact of heightened global policy uncertainty on the Australian labour market becomes clearer.

Wages growth, on a year-ended basis, has moderated over the past year.

Wages growth ticked up slightly to 3.4 per cent in the March quarter, as expected in February. Quarterly growth in private sector wages picked up to 0.9 per cent in March, largely reflecting increases to the award wages of childcare and aged care workers (Graph 3.10). Public sector wages growth increased, owing primarily to several large agreements. The finalisation of some agreements had been delayed in previous quarters and has contributed to volatility in recent Wage Price Index (WPI) outcomes.

Looking through the effects of administered wage decisions, underlying growth in private sector wages was little changed in the March quarter but was lower than a year ago. Wages growth has eased for workers paid under individual arrangements, whose wages tend to be the most responsive to labour market conditions (Graph 3.11). The rate at which workers have moved between jobs – as reflected in the number of quits as a share of filled jobs – has declined in trend terms in recent quarters. In part, this may suggest fewer opportunities for workers to switch jobs, consistent with market sector employment growth being soft over the past year. The decline in the quits rate may also reflect reduced willingness by workers to switch jobs, consistent with weak consumer sentiment. The decline in labour mobility suggests that inter-firm competition to attract and retain staff may have eased, and so there may be less upward pressure on wages – and less tightness in the labour market – than implied by other indicators, such as the unemployment rate (see Chapter 4: Outlook). In liaison, some firms have noted that the recent decline in inflation has contributed to slower wage growth. To date, liaison contacts report that uncertainty relating to the global trade environment has not materially affected their expectations for wages growth.

Unit labour costs growth increased in the December quarter, with the high growth rate underpinned by weak productivity outcomes.

Growth in the national accounts measure of average earnings per hour (AENA) increased slightly in the December quarter and was stronger than growth in the WPI. Growth in AENA was stronger than expected over the year to December, increasing to 3.7 per cent. Compared with WPI growth, this measure provides a broader picture of earnings growth for employees, including changes in bonuses, overtime and other payments, as well as the impact of workers transitioning to jobs with different levels of pay. These additional factors make average earnings per hour a more comprehensive indicator of labour costs, with a stronger link to unit labour costs. However, this measure is more volatile than the WPI, and so provides a noisier read on wage pressures arising from tightness in the labour market.

Year-ended growth in unit labour costs rose to 5.4 per cent in the December quarter, which is both elevated and stronger than expected in the February Statement (Graph 3.12). The increase, from 4.5 per cent in the September quarter, was driven by weaker labour productivity growth and the stronger-than-expected outcome for average earnings growth (as discussed above). Unit labour costs growth for the market sector, excluding the mining and agriculture industries, was a little lower than in the non-farm sector as a whole at 4.6 per cent over the year to the December quarter. That reflects the fact that measured productivity growth in the market sector has been less weak than in the non-farm sector. Elevated market and non-farm sector unit labour cost growth are both consistent with the judgement that labour market conditions overall remain relatively tight.

3.3 Assessment of spare capacity

We assess that labour market conditions have remained tight over recent quarters, while broader capacity pressures have eased somewhat – though these assessments are uncertain.

A range of information – including labour market and labour cost data, business surveys and model estimates – continue to suggest the labour market is tight. Looking through the monthly volatility, most labour market outcomes have remained broadly stable in recent months. Survey measures of firms’ capacity utilisation and model-based estimates of the output gap indicate that ongoing economy-wide capacity pressures have continued to ease modestly. As noted in previous Statements, as demand and supply move closer to balance it is harder to be sure that the output gap is positive because estimates of spare capacity – in the labour market and the economy as a whole – are inherently uncertain. Although our assessment of full employment has not changed, there continues to be a risk that we have overestimated the extent of excess demand in the labour market.

A range of indicators suggests that the labour market was still tight relative to full employment, prior to the recent escalation in trade tensions. Indicators of spare capacity in the labour market, including the ratio of vacancies to unemployed workers and the share of firms reporting labour as a constraint on output, had stabilised at somewhat elevated levels (Graph 3.13). Similarly, the unemployment rate is little changed from the middle of last year, while the underemployment rate has fallen since then but stabilised since the start of the year. On the other hand, measures of job mobility have continued to decline, suggesting inter-firm competition to attract and retain staff has eased. This may imply less upwards pressure on wages growth and inflation than suggested by other labour market indicators, such as the unemployment rate. We will wait for more data to assess whether the softening in these measures and recent international developments have implications for labour market tightness. For now, labour market conditions are assessed as being little changed from six months ago.

Model-based estimates also suggest that the labour market remains tighter than full employment, with both the unemployment rate and the broader hours-based underutilisation rate remaining lower than our estimates of their full-employment levels. Estimates of spare capacity have remained broadly stable since mid-2024 and recent data have been in line with the assessment in the February Statement (Graph 3.14). Each of the model estimates in the suite that we consider implies that the labour market is tighter than full employment; however, there is also substantial estimation uncertainty around each estimate (indicated by the grey range in Graph 3.14).

A range of model-based estimates and data suggest the output gap was positive in the December quarter, though there is a high degree of uncertainty around this assessment (Graph 3.15). Recent GDP outcomes remain higher than estimates of potential output, suggesting that aggregate demand continued to exceed the capacity of the economy to sustainably supply goods and services. Model estimates indicate that the output gap continued to narrow in the December quarter, but at a slower pace than seen in previous quarters and at a slightly slower pace than expected at the February Statement. The change was primarily driven by tight labour market outcomes during late 2024 and is consistent with the pick-up in aggregate demand over that period, alongside weak trend productivity growth continuing to constrain growth in aggregate supply. The range of model estimates for the output gap remains wide, reflecting differences in how individual models interpret the data, with each model estimate also subject to considerable estimation uncertainty that is not captured by the range in Graph 3.15. The model-based assessment is consistent with the NAB measure of capacity utilisation, which remained above its historical average (in three-month average terms) in the December quarter, suggesting businesses were still using their labour and capital resources at higher-than-normal rates to meet demand. The monthly NAB measure has declined in early 2025, consistent with a continued gradual easing of economy-wide capacity pressures.

3.4 Inflation

Underlying inflation returned to the 2–3 per cent range in the March quarter, as expected in the February Statement.

Trimmed mean inflation was 0.7 per cent in the March quarter and 2.9 per cent over the year, as expected in the February Statement (Graph 3.16). Quarterly trimmed mean inflation picked up from 0.5 per cent in the December quarter of 2024. The pick-up in quarterly terms reflected the unwinding of temporary factors, including government cost-of-living measures and an adjustment made by the ABS to the childcare inflation series to correct for past errors, as well as some strong start-of-year administered price increases. Market services inflation eased by slightly more than expected in the February Statement, with the disinflation being broadly based. As noted in the February Statement, downward pressure on firms’ margins may be weighing on inflation at present, with some firms reporting in liaison that weak demand has limited their ability to pass increases in input costs fully through to output prices. Declining new dwelling construction prices have continued to be a driver of the moderation in underlying inflation alongside increased discounting by builders. The recent flooding events in Queensland and New South Wales have had minimal effects on inflation (see Box B: The Impact of the Recent Floods on the Australian Economy).

Over the past year the easing in inflation has proceeded broadly as expected, or a little quicker. Each of the previous four outcomes for underlying inflation has been in line with one-quarter-ahead expectations from the preceding Statement. Underlying inflation is nevertheless a little lower than was expected a year ago, and upside risks to inflation have not materialised (Graph 3.17).

Headline inflation in the March quarter was unchanged in year-ended terms at 2.4 per cent and continued to be affected by government subsidies to households. Headline inflation increased to 0.9 per cent in the March quarter (seasonally adjusted), largely reflecting the unwinding of state electricity rebates in Queensland and Western Australia, along with the other temporary factors that also drove the pick-up in trimmed mean inflation. However, the past effects of electricity rebates continued to weigh on year-ended headline inflation, and rebates overall are estimated to have subtracted around 0.2 percentage points from year-ended inflation in the March quarter.

Housing inflation continued to ease in the March quarter in year-ended terms, owing to a slowing in inflation for new dwelling costs and rents.

New dwelling construction prices declined in the March quarter, to be 1.4 per cent higher over the year (Graph 3.18). This is consistent with information from liaison that weakness in demand for building new houses is contributing to builders offering discounts and that improvements in labour availability are easing pressures on labour costs.

CPI rent inflation eased to 5.5 per cent over the year to the March quarter, consistent with the earlier slowing in advertised rents growth (Graph 3.19). Growth in advertised rents has stabilised over recent months, consistent with the recent stabilisation of rental vacancy rates. This suggests that CPI rent inflation could also stabilise in the period ahead.

Services inflation moderated further in the March quarter.

Market services inflation (excluding domestic travel and telecommunications) eased to 3.5 per cent over the year to March, slowing by slightly more than expected in the February Statement (Graph 3.20). The broad-based disinflation in recent quarters has seen the quarterly pace of market services inflation decline to around its inflation-targeting average rate. Insurance price inflation has eased notably from previously elevated rates, and absent further shocks this is likely to stabilise around historical average rates over the next year. Inflation for goods and services with administered prices (excluding utilities) rose strongly in the March quarter, partly reflecting strong start-of-year price increases in education and health, though indexation effects have lowered the year-ended rate overall.

Goods inflation has eased over the past year; it is too early to see any effects of recent international developments.

Year-ended inflation for retail goods slowed in the March quarter. The quarterly pace of inflation remained broadly stable, in line with expectations in the February Statement. Quarterly groceries inflation remained around historical average levels in the March quarter, and quarterly consumer durables inflation has remained stable at low rates recently. Cyclone Alfred had a limited impact on these outcomes (see Box B: The Impact of Recent Floods on the Australian Economy). Retail contacts in the liaison program report that it is still too early to see any impact of global trade developments on either import or retail prices.

Inflation expectations remain consistent with achieving the inflation target over time.

Survey and financial market measures of short-term inflation expectations have declined from their mid-2022 peaks, consistent with declines in actual inflation (Graph 3.21). Survey measures of households’ short-term inflation expectations appear mostly unaffected by the tariff announcements, although the series are volatile. Financial market measures of inflation compensation remain close to survey measures of medium- and long-term expectations. Unions’ long-term inflation expectations have also declined to be close to the midpoint of the target range. Overall, our assessment is that long-term inflation expectations remain anchored at the target.

Endnotes

For example, see Bloom N (2009), ‘The Impact of Uncertainty Shocks’, Econometrica, 77(3), pp 623–685; Moore A (2016), ‘Measuring Economic Uncertainty and Its Effects’, RBA Research Discussion Paper No 2016-01. 1

See Saunders T and Tulip P (2019), ‘A Model of the Australian Housing Market’, RBA Research Discussion Paper No 2019-01. 2