The Forward View – Australia: May 2022

Rates to rise further as strong growth continues

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Overview

  • We continue to be optimistic on the economy as we move further past the domestic disruptions to activity over the past couple of years. We see ongoing above trend growth this year and ongoing strength in the labour market. However, this comes with the challenge of high inflation in the near-term and growing uncertainty over global growth.
  • The key changes to our forecast this month include modest markups to both our inflation and cash rate profiles – incorporating the larger than expected cash rate increase last week and bringing forward an additional hike into 2024. Our outlook for activity and the labour market are largely unchanged.
  • GDP is still expected to grow by a strong 3.4% this year. We see a moderation in growth to 2.1% over 2023 and close to trend growth of 2.2% over 2024. That sees the level of GDP broadly around its pre-pandemic path.
  • As a result, we see further gains in employment and further falls in the unemployment rate through 2022. We see an imminent decline in the unemployment rate to below 4% – reaching a 3.5% low in Q3 and staying there for much of the next year. We expect the unemployment rate to drift up slightly at the end of the forecast period but remain historically low.
  • We now see slightly stronger inflation prints over the next two quarters, which sees underlying inflation reaching 4.6% y/y by Q3 before moderating over the out years – 4.5% y/y at end 2022, 2.9% y/y at end 2023 and 2.7% y/y by end 2024.
  • The RBA surprised somewhat in May by lifting the cash rate by 25bps to 0.35% (rather than 15bps to 0.25%). This is likely to be the first of a series of hikes over coming months which we expect will see the cash rate target rise to 1.35% by the end of the year, before continuing to rise over 2023 and 2024 – reaching 2.6% by the end of our forecast period.
  • The key near-term risks to our forecasts on both activity and prices continue to be international factors – with growing concerns over global growth, renewed lockdowns in China and considerable uncertainty over the normalisation of supply chains and commodity prices. Further out, the ongoing normalisation of goods and services spending and international trade remains a key unknown.
  • With the RBA beginning a new hiking phase, higher interest rates will begin to impact activity and prices through a number of channels. With rates only rising for the first time since 2010 there may be added uncertainty around the speed and magnitude of these reactions. However, a number of sectors will likely face significant adjustments as the RBA begins to remove the exceptional stimulus provided during the pandemic.

For further details, please see The Forward View Australia (May 2022)