The RBA might delay cutting rates – again. There’s a silver lining for some

A post-Christmas interest rate cut from the Reserve Bank could be off the agenda as the institution’s own measure of the jobs market suggests it is too strong to prevent a further sustainable fall in the country’s inflation rate.

As research for the bank shows its own interest rate settings account for a quarter of the drop-off in homeownership among young Australians, documents obtained by this masthead under freedom of information show that RBA economists believe unemployment is only gradually moving back to the point where it doesn’t put upward pressure on prices.

The RBA may not cut rates in its first post-Christmas meeting.Credit: Marija Ercegovac

This masthead revealed earlier this month growing concerns among economists that the bank’s estimate of the “non-accelerating inflation of unemployment” (NAIRU) – the level of unemployment consistent with steady inflation – is too high.

Some believe the bank’s estimate, of around 4.5 per cent, means tens of thousands of people more are out of work than necessary. The federal Treasury puts NAIRU at 4.25 per cent while the ANZ’s head of Australian economics, Adam Boyton, believes it could be 3.75 per cent.

The bank seeks to hold inflation between 2 and 3 per cent, something it has only achieved in 15 months over the past decade.

The documents, which are largely internal working papers on NAIRU since July, show the bank’s active discussion of the strength of the jobs market, the amount of spare capacity in the economy and ultimately, its impact on inflation.

They reveal that over the past year, the bank has overhauled its key economic models to estimate full employment and the balance between supply and demand within the economy. Despite the work, RBA economists admit there is “considerable uncertainty with estimating NAIRU and potential output”.

By September, the documents show that across a series of the bank’s models the key measures of NAIRU and the gap between supply and demand were only slowly aligning.

The strong jobs market could continue to hold back the Reserve Bank from rate cuts, which themselves could make housing more unaffordable.Credit: Joe Armao

“These estimates indicate that the labour market is continuing to gradually move towards full employment,” they said.

Since the documents were created, unemployment has fallen to just 3.9 per cent. It’s now at the level it was in November last year when the Reserve Bank last lifted interest rates.

The underutilisation rate, which includes the proportion of people in work who want more hours, has also eased to 10 per cent to be at its lowest level since September last year. During the depths of the pandemic, the underutilisation rate was above 20 per cent.

Despite the tight jobs market, inflation has continued to ease. After peaking at 7.8 per cent in late 2022, inflation has fallen to 2.8 per cent, its lowest level in 3½ years. The recent overhaul of the Reserve Bank included the first change to its operating charter since it was established in 1959. The bank is now charged with a “dual mandate” of a stable currency, which is to keep inflation between 2 and 3 per cent, and full employment.

The same overhaul has also included regular press conferences by bank governor Michele Bullock, who has often been asked about the relationship between unemployment and the RBA’s inflation target.

The tension between unemployment and inflation will continue to dominate the economic outlook.Credit: Getty Images

The documents show bank economists understand the difficulty trying to explain the slowdown in inflation even as the jobs market remains strong.

“Variability in our NAIRU estimates of the degree estimated here may pose challenges for how we communicate about the role of these estimates in forecasting inflation and assessing full employment,” one economist noted in mid-October.

Despite turmoil with share prices and the value of the Australian dollar, financial markets put the chance of an interest rate cut at the RBA’s mid-February meeting at 72 per cent. The same markets expect the bank to have taken the cash rate to 4.1 per cent by April.

But an interest rate cut may only make housing less affordable to young people.

Research by bank economists Anirudh Yadav and Tom Cusbert plus Sydney University academic James Graham shows RBA rate cuts have been a key factor in the decades-long collapse in home ownership.

The economists looked at the period between 1995 and 2019, during which the cash rate fell from around 7.5 per cent to hit a record low of 1.5 per cent. It would fall even lower, to just 0.1 per cent, during the pandemic.

During this period, ownership rates among those aged under 40 fell from around 60 per cent to 45 per cent while smaller drops hit older Australians.

The economists estimated that a quarter of the drop in ownership rate for under 40s was due to falling rates while another quarter is due to higher state government stamp duties.

“As rates decline, house prices rise, which tightens the down-payment constraint on new mortgages and raises transaction costs of buying housing. Home ownership falls,” they found.

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