Reserve Bank of Australia: Output gap signals prolonged hold – TD Securities

TD Securities’ Prashant Newnaha and Howard Du argue recent weak Australian data and Federal Budget tax changes should keep the RBA cash rate at 4.35% next week and likely on hold for longer. With trimmed mean inflation still elevated and the output gap closing, they see rate cuts as premature but acknowledges waning conviction in an August hike.

Weak data challenge August hike expectations

"The run of softer data and taxation changes announced in the Federal Budget ensures the RBA holds the cash rate steady at 4.35% at next week's meeting. More important for markets is whether the Bank's messaging signals the cash rate on a prolonged hold. The market would interpret such a message as dovish, and this is where the risks lie."

"However, we doubt the RBA's models signal an impending recession and with trimmed mean inflation remaining elevated for some time, any discussion of cuts to the cash rate is pre-mature."

"As for the output gap, NAB's measure of capacity utilization is trending down towards the long term average. The implication is the positive output gap is closing. The other signal the capacity utilization measure is sending is an impending rise in the unemployment rate, which would be well above the quarterly averages the RBA has in its May SoMP forecasts for this year."

"So where does this leave us? Our conviction on the RBA delivering a hike at its August is waning, but we will look to the May CPI print (June 24th) to confirm if the RBA has room to deliver one more hike (Aug or later) or whether the RBA is set to keep cash rate on hold for a prolonged period."

"Lastly, one cannot ignore the developments from the Federal Budget. The changes to negative gearing and capital gains taxes are likely to drive a material slowing in credit growth. Does the RBA need to hike into that with urgency? Not really."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor.)