Job surge adds to pressure on interest rates, RBA to press on with hikes
The lowest unemployment rate in 48 years will embolden the RBA to press on with aggressive interest rate rises to contain a potential breakout in inflation expectations.
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The lowest unemployment rate in 48 years will embolden the Reserve Bank to press on with aggressive interest rate rises to contain a potential breakout in inflation expectations.
Economists backed an upsized increase of 75 basis points next month and some raised their forecast for the peak of the cash rate set by the RBA after an extremely strong jobs report.
The Australian Bureau of Statistics said employers created 88,400 jobs in June – almost three times consensus estimates of 30,000 – driving the unemployment rate down from 3.9 per cent to 3.5 per cent, much lower than an expected 3.8 per cent.
The unemployment rate was well below the RBA’s May forecast of 3.8 per cent for mid-year.
The economy may have exceeded full employment – at which point a risky wage-price spiral could start.
“This is an increasingly tight labour market, possibly already beyond full employment, which will keep pressure on the RBA to get to neutral sooner rather than later and think about restrictive territory,” said RBC Australia chief economist, Su-Lin Ong.
“Coupled with the global trend to front load, with the Bank of Canada delivering a 100 basis point hike, markets will likely price in something between 50 and 75 basis points for the August 2 RBA meeting.”
The low unemployment rate came after Monday’s announcement of a jobs and skills summit in early September that has the potential to drive significant labour market reforms, according to CommSec.
“Australia’s skilled labour crisis is worsening, with businesses struggling to fill jobs amid a mismatch between people’s expertise and the work available across the nation,” CommSec senior economist Ryan Felsman said.
“Increased investment in education and training, enhanced workforce participation and a sustainable skilled migration program is required to address chronic worker shortages.”
But Marcel Thieliant, an economist at Capital Economics, said the sharp fall in unemployment would still require the RBA to tighten monetary policy more aggressively than most anticipated.
Mr Thieliant expected unemployment to fall further towards 3 per cent in the coming months.
“Admittedly, the tightness of the labour market is yet to result in a sharp acceleration in wage growth, but the jump in ‘labour costs’ in June’s NAB monthly business survey to yet another record high suggests that this isn’t far off,” he said.
“The upshot is that we’re comfortable with our forecast that the RBA will lift rates to a peak of 3.5 per cent instead of the analyst consensus of 2.7 per cent.”
After the blowout employment June report, Deutsche Bank Australia chief economist Phil O’Donaghoe saw many reasons for the RBA to lift rates by an upsized 75 basis points next month.
Importantly, the upside risk to June quarter inflation from soaring food and energy prices is likely to see the headline CPI exceed the RBA’s 7 per cent forecast by year end. While global supply side inflation pressures are abating, demand pressures are rising. Australia faces a similar experience.
Even with monthly board meetings, the Reserve Bank’s reliance on quarterly data for prices meant it would be challenging to stay on top of inflation psychology. In Mr O’Donaghoe’s view, the sensitivity of households to changes in interest rates is being overstated. “Proportionately, more mortgage debt is now on fixed-rate contracts than in any previous hiking cycle during the RBA’s inflation targeting era,” Mr O’Donaghoe said.
He also drew parallels with the recent Canadian experience, where Bank of Canada governor Tiff Macklem opted for a 100 basis point rate rise on Wednesday. “Just like Canada, inflation in Australia is too high. People are worried that it is here to stay and the RBA cannot let that happen,” Mr O’Donaghoe said. “We continue to look for the cash rate to rise by 75 basis points in August, and for the cash rate to reach 3.1 per cent by the end of the year.”
Goldman Sachs chief economist Andrew Boak said he now expected the RBA to lift rates by 75 basis points in August and hit a peak rate of 3.35 per cent, versus 3.1 per cent previously forecast.
UBS economist George Tharenou conceded that a 75-basis-point rise in August was possible.
The drop in unemployment and labour under-utilisation, and record business survey measures of capacity utilisation, labour costs and selling prices showed “extreme tightness in labour and product markets” that “poses upside risk to wages and inflation”.
Mr Tharenou also noted that higher-than-expected US inflation “cements the likelihood the Fed will continue with ongoing rapid rate hikes, while other global central banks also are tightening quickly, with the RBNZ doing 50 basis points and Bank of Canada doing 100 basis points.
“Hence, we still expect the RBA to also keep hiking quickly in the near term, with another 50 basis points in August,” he said.
But the risk was “clearly tilted to an even larger 75-basis-point move, especially if Q2 CPI also surprises to the upside again, and the Fed does 100 basis points”.
RBA governor Philip Lowe had recently said that 75 basis points was never an option, but the moves offshore and domestic data raised the risk that RBA “front-loads” more of the tightening cycle with ongoing 50-basis-point moves over coming months,” Mr Tharenou added.
His view of a 2.6 per cent peak in November and cuts in the second half of 2023 “clearly requires global inflation to ease significantly, and see the Fed pause and turn to cuts”. That would provide a “credible chart” for the RBA to project domestic inflation to also moderate towards its 2-3 per cent target band over the outlook.
BetaShares chief economist David Bassanese said that while the strong June jobs report showed Australia retained momentum, “risks are looming, given the likelihood that the US will tumble into recession”.