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Analysis

• Gone are the days of central banks undertaking a hiking cycle on forecasts of inflation based on a pre-conceived NAIRU. Instead RBA Governor Lowe has pledged not to hike rates until actual inflation is sustainably within the 2-3% target band, with wages growth key to that assessment.
• Two questions naturally arise: (1) What is the “maximum possible sustainable employment” level in Australia and how quickly could this be reached; and (2) what are the macro implications from the RBA waiting until actual inflation is sustainably within the 2-3% target band instead of prior hike cycles on a pre-conceived NAIRU?
• First question: What is maximum possible sustainable employment? Short answer, no one knows, but it likely has unemployment lower than model-based estimates of the NAIRU. Prior to the pandemic the NAIRU was pegged around 4.5%, while in NSW unemployment got as low as 4.0% in early 2019 without much wages pressure.

• Ross Garnaut in his recent book speculates full employment could be as low as 3.5%. Governor Lowe seemingly agrees with this sentiment, noting it is possible unemployment could be sustained in the “low 4s” or even in the “3s”. Updating Dr Garnaut’s work for recent employment outcomes suggests 1m new jobs would be needed to reach 3.5%. Prior to the pandemic, jobs growth was averaging 21k a month, suggesting a date as early as 2025. NAB’s view is NAIRU is likely around 4.5% which could be reached in 2023, with the risk of course NAIRU is lower.
• Second question: What are the macro implications? (1) a prolonged period of unchanged rates could mean an eventual hiking cycle has to be relatively steep given the amount of accommodation the economy would have at full employment; (2) macro-prudential policies may well have to be reintroduced to control financial stability risks – the housing market is one area of focus given price dynamics; and (3) there may be greater uncertainty around the medium-term inflation path given the risk of inflationary pressures building up and the RBA delaying its policy response.

The week ahead

• Australia:  Employment on Thursday and Retail Sales on Friday are the highlights. NAB sees upside risks for employment and has pencilled in +50k jobs (consensus +30k) and for the unemployment rate to fall two tenths to 6.2% from 6.4% (consensus 6.3%). The RBA Minutes are also on Tuesday but are unlikely to shed too much more light on RBA thinking given recent detailed communications.
• International: FOMC in focus in what is a big week for central banks with the BoE and BoJ also meeting. Focus will be on the refreshed forecasts given the fiscal package and Treasury Secretary Yellen’s observation that full employment could be reached by mid-2022. There are also key data pieces including, NZ Q4 GDP, US Retail Sales, and the virus track in Europe with Italy going into lockdown from today until Easter (see our What to Watch publication for details).

Chart 1: NSW unemployment got as low as 4.0% in early 2019 with little in the way of wages growth

Chart 2: Unemployment below 4.0% would take us back to the 1970s

Chart 3: US experience highlights NAIRU may be lower than where we think it is

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