(Bloomberg) — Australia’s labor market is “still very tight” and price pressures remain surprisingly strong, Reserve Bank Governor Philip Lowe said, making the case for further interest-rate increases.
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“Given there is a significant demand element to inflation, we need to respond to that with further monetary policy,” Lowe told a parliamentary panel Friday in his second session of testimony this week. “We need to make that clear to the community that we were not done yet.”
Australian bond yields rose, driven both by the governor’s tougher talk on inflation and hawkish rhetoric from the Federal Reserve overnight. Three-year yields climbed 5 basis points to 3.5% as rates traders priced in a quarter-point RBA rate hike next month.
Lowe rounded out the week with another solid performance before lawmakers, with his arguments defusing some of the criticisms of his stewardship. While there were no questions about the governor’s future, his clarity about the perils of leaving elevated inflation unchecked reinforced the urgency of further policy tightening.
“Governor Lowe and colleagues’ Senate and House of Reps appearances showed how political the issues around the RBA have become,” said Shane Oliver, chief economist at AMP Capital Markets and a veteran central bank-watcher.
The testimony “highlighted that the RBA judges the longer-term cost to the economy of not getting inflation back down as greater than the shorter-term cost of bringing it under control,” he said.
Lowe maintained that he wants to ensure the current period of high prices is temporary. Even so, the central bank forecasts it will only return to the top of the bank’s 2-3% target in 2025.
When asked about the peak cash rate, Lowe said he wasn’t sure how many more hikes were needed, saying that will depend on how the world economy and local household spending unfold, as well as the inflation and jobs outlook.
Lowe, who says he wants to hold onto the extraordinary job gains of recent years, has hiked by 3.25 percentage points since May, with financial market pricing pointing to a peak rate of 4.1% by mid-year, from 3.35% now.
Data Thursday showed Australia’s jobless rate climbed to an eight-month high of 3.7%, while employment fell for a second straight month. The governor said the report hadn’t changed his overall assessment of the economy as December and January data are heavily impacted by seasonal factors.
“Our overall assessment is the labor market is still very tight,” Lowe said, signaling February’s report has taken on greater significance given he would likely have to reassess the outlook if there was another weak result.
The RBA’s hawkish shift this month followed a report showing the key core inflation gauge soared to 6.9% in the final three months of 2022, exceeding the central bank’s forecast 6.5%.
“That is a big difference,” Lowe said, citing the result as a key factor in the adjusted policy messaging between December and February. The central bank in December considered pausing its tightening cycle.
Further adding to inflationary pressures, Lowe expects wages to pick up further, with RBA business liaison showing many firms are offering 5% increases this year. Lowe also pointed to additional savings accumulated as another potential factor driving demand.
Since the beginning of the pandemic, Australians have saved almost A$300 billion ($207 billion), equivalent to 20% of annual disposable income.
Yet Lowe also said he is ready to slow or stop rate rises if incoming data pointed to a slowdown in activity. When asked if he agreed with market pricing for rate cuts next year, Lowe said it is a “plausible scenario.”
The governor’s appearance comes amid a mounting backlash over the RBA’s communications during the current round of rate increases, the most aggressive in more than three decades.
On Wednesday, in his first public appearance of the year, Lowe brushed aside much of the criticism as “noise” that comes with any tightening cycle, saying the board was unaffected and remained determined to crush inflation.
He also defended the RBA’s closed-door meetings with the business community, while adding that after leaks from a meeting hosted by Barrenjoey — which included staff from other banks — the RBA wouldn’t be meeting with the investment bank for some time.
–With assistance from Garfield Reynolds.
(Writes with comments from Q&A, market reaction)
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