Reserve Bank of Australia holds its course on monetary policy but is watching the virus

RBA governor Philip Lowe expects the economy to go negative this quarter and pick up in the next but he doesn’t have a crystal ball when it comes to the virus, vaccinations or premiers.

Reserve Bank of Australia governor Philip Lowe. Picture: James Brickwood

The Reserve Bank has “looked through” both the inflation surge in the year to the June quarter and the – national – economic slump taking place right now thanks to the NSW lockdown.

It was always going to do the first. It fully expected the surge in the annual headline inflation rate, if not quite to as high as the reported 3.8 per cent. Its early May forecast was that it would be to around 3.3 per cent.

Even so, the somewhat higher figure was never going to cause the RBA concern as being “too high”. But equally, that higher – annual headline – figure did not satisfy it that inflation had therefore picked up already and would stay in its desired 2-3 per cent target range.

As I explained last week, the annual number was all about what happened last year when the economy plunged into the June quarter recession.

The better guide to what’s happening to inflation so far this year – and so what might be in prospect into 2022 – is the modest 1 per cent rise in underlying inflation over the June half-year.

Reserve Bank of Australia governor Philip Lowe. Picture: James Brickwood

That gave an annual rate of just under 2 per cent; that’s to say, right at the bottom of the RBA’s target range.

Yes, we saw surging (used) car and petrol prices. But overall, inflation was picking up only slowly.

Governor Philip Lowe repeated yesterday the RBA’s expectation that underlying inflation would still be only around 1.75 per cent through 2022 and just 2.25 per cent through 2023.

So again, he emphasised that the inflation trigger for a rate rise was not expected before 2024.

The – now increasingly extended - lockdown of over 40 per cent of the national economy (with the south-east of Queensland joining greater metro Sydney) - raised the question whether the RBA should actually press the accelerator.

A month ago Lowe said the RBA would start tapering its QE program in September from $5bn to $4bn a week.

Various economists led by Westpac’s veteran Bill Evans have been calling for the RBA to backtrack in the wake of what’s happening in NSW.

Indeed Evans wanted the RBA to go immediately to $6bn a week.

Last week I wrote that calls for the RBA to reverse its decision were “as completely clueless as the calls for the Federal Government to reinstate JobKeeper”.

It appears the RBA agreed with me: it will persist with its announced move.

But, absolutely critically, Lowe added: “the program will continue to be reviewed in light of economic conditions and the health situation”.

Let me explain why it made no sense for the RBA to do a U-turn now; but equally why it could next month. Or the month after that.

It’s utterly inane and for exactly the same reason to demand that Lowe tell us what the RBA will do out of its September meeting as it is to demand, as journalists were again yesterday, that Premier Berejiklian tell us now what NSW will do with its lockdown at the end of the month.

Yes, the RBA now expects the – entire national - economy to go negative this quarter; but it expects it to pick up in the December quarter.

That’s on the critical assumption that NSW opens up, if not necessarily at the end of August. “The experience to date (especially Victoria) has been that once virus outbreaks are contained, the economy bounces back quickly,” Lowe said.

At core the RBA sees that pickup being only delayed. It sees national economic growth being weaker through this December but therefore stronger through next December.

The critical thing to understand is that Lowe knows he doesn’t have a crystal ball: not in relation to the virus, or to vaccinations, or indeed the actions of premiers

In short: keep watching this space.

Originally published as Reserve Bank of Australia holds its course on monetary policy but is watching the virus