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Australian Markets Weekly: The inflation debate: up, down or unchanged?

Analysis

• It is not clear why inflation has undershot central bank targets for so long – the main arguments advanced have been technology, globalisation, excess capacity and demographics, which have allowed unemployment to fall much lower than prior full employment estimates.
• The current pandemic has added uncertainty to the outlook with additional QE and supply chain disruptions needing to be weighed against the fundamentals of elevated unemployment and underemployment, which are expected to keep wages growth well below average levels for some years. A subdued outlook for rents also adds to low inflationary pressure in the near term. Amid the uncertainty, the RBA has signalled that it will be more re-active to inflation, rather than pro-active.

Victoria “on the move” again after lockdown, mobility picks up strongly

• Mobility indicators show a sharp lift in economic activity occurring in Victoria after the easing of restrictions last week. Apple searches for driving are largely tracking the recovery seen out of the first lockdown back in April, while there has been a sharp pick-up in restaurant bookings. Anecdotes amongst retailers are also encouraging.

RBA to cut rates and launch QE in the 5-10yr part of the curve on Tuesday

• The RBA meets tomorrow and we continue to expect the RBA to cut the cash rate to 0.10%, along with the 3-year yield target (YCC) and the TFF rate. We also expect the RBA to announce outright QE purchases in the 5-10 year area of the curve. Markets are well priced for this outcome with the 3yr yield trading at 0.12%, while a recent Reuter’s survey has economists centred on a $100bn QE program over 12 months.

The week ahead

• Australia: The RBA meets on Tuesday and is widely expected to ease policy further. On Friday, the RBA also publishes its updated forecasts on the economy in the Statement on Monetary Policy, where it should lower its expected peak in the unemployment rate to 8% from 10% but continue to forecast only a gradual recovery in the labour market. On the data front, payrolls are on Tuesday with focus on whether the tapering of JobKeeper is affecting jobs, while real retail sales on Wednesday should show a sharp 6% rise.
• International:  US: all focus on the US Presidential election on Tuesday (results from 11am Wednesday AEDT), where polls and betting odds point to a Biden victory and the Democrats winning the Senate. There is a lot of uncertainty given the surprise in 2016, while it is unclear whether a clear winner will emerge on the night given the high degree of pre-polling. Outside of the election the Fed meets on Thursday and Payrolls are on Friday. EU/UK: UK-EU trade negotiations continue, while the BoE also meets.

Chart 1: Victoria on the move after lockdown

Chart 2: Inflation is well below target everywhere

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