What we learned this week: Central bank edition
This week we take a look at the Federal Reserve meeting and what this means for Australia.
This week, the Chairman of the US Federal Reserve, Jerome Powell, announced a 75-basis point (0.75%) increase in the Federal Funds rate, reigniting global recession fears as inflation in the largest economy runs red hot.
In his speech on Wednesday (Thursday AEST) Powell backed the Federal Open Market Committee’s (FOMC) decision to raise interest rates, reaffirming that ongoing increases will be appropriate.
“We are moving our policy stance purposefully to a level that will be sufficiently restrictive to return inflation to 2 percent,” he said.
After reminding the market that in August, the 12 months change in headline inflation and core CPI rose 8.3% and 6.3% respectively, he explained the importance of central banks acting now to curtail soaring inflation.
“The longer the current bout of high inflation continues, the greater the chance that expectations of higher inflation will become entrenched,” he said.
“We are highly attentive to the risks that high inflation poses to both sides of our mandate, and we are strongly committed to returning inflation to our 2 percent objective,” he added.
During question time, Powell explained that achieving a soft landing would be difficult.
“We have always understood that restoring price stability while achieving a relatively modest decline, or rather increase, in unemployment and a soft landing would be very challenging and we don't know, no one knows whether this process will lead to a recession or if so, how significant that recession would be,” he said.
The Nasdaq Composite, Dow Jones Industrial Average and S&P 500 all slipped, falling 1.8%, 1.7% and 1.7% respectively intraday. The dip spread to Australian markets on Friday with the ASX 200 falling 1.9% over the day.
Head of equity research and editor of Morningstar’s Your Money Weekly Peter Warnes forecasts further volatility in the equity market, urging investors to “adopt a cautious stance for the time being.” Following the Fed’s announcement, volatility indexes such as CBOE’s VIX index, which measures uncertainty expectations in the equity market, gained 3.3% over the day.
What can we expect for the RBA in October?
The ASX rate tracker shows market expectations in regard to changes in the cash rate based off market prices in the ASX 30 Day Interbank Cash Rate Futures. It quantifies the percentage of the market that forecasts an increase in the cash rate or see no change.
Prior to the FOMC announcement this week, an estimated 72% of the market anticipated a 50-basis point rate hike at the next meeting of Australia's central bank. However, Warnes is more confident: “the Reserve Bank will have to lift the official cash rate by 50-basis points on 4 October.”
Like Powell, RBA Governor Philip Lowe is also committed to bringing Australian inflation back down to sustainable levels within the target band of 2 per cent to 3 percent. With annual CPI inflation increasing to 6.1% in the June quarter, its highest level since the target was introduced in the early 90’s, the stage is set for rate hikes.
What we are watching:
- Wednesday: Australian retail sales data
- Thursday: US jobless claims data
- Friday: US personal income data
