The death of Australia’s car industry and forecasts for decade-high unemployment are adding to the dilemma faced by the central bank as traders price in a better-than-even chance of an interest rate increase in a year.
Swaps trading yesterday showed the record-low 2.5 percent benchmark will rise 18 basis points over 12 months, according to a Credit Suisse Group AG index, as surging house prices add to inflation concerns. The Aussie reached a four-week high and the extra yield the nation’s two-year bonds offer over the U.S. touched 2.54 percentage points, the most in 10 months.
Economists are divided on the next move after the Reserve Bank of Australia signaled this month an end to its easing cycle. Since the decision, data showed record exports to China, house prices gaining the most since 2010 and improved business confidence. About 50,000 jobs in the auto and parts industry are in jeopardy after Toyota Motor Corp. signaled the end of the nation’s carmaking industry when it shuts production lines in three years.
“It’s a particularly difficult time and that’s why you have such a divergence of views in markets and among economists,” said Jarrod Kerr, a director of interest-rate strategy in Sydney at Commonwealth Bank of Australia, the nation’s largest lender. “The unemployment rate will gradually tick up, but it’s not going to increase in a concerning way and the hurdle to a rate cut is quite high.”
Australia’s joblessness is climbing as businesses stung in the past few years by a high currency put off investment and hiring at the same time as a record mining investment boom wanes. The RBA has been looking to the past year’s drop in the Aussie and 225 basis points in rate cuts since late 2011 to stimulate growth in consumption, construction and exports.
CBA is among 11 institutions predicting the RBA will announce its first benchmark increase since 2010 by the final quarter of this year, while 13 forecast no change to borrowing costs and six estimate at least one more cut will be needed, according to a Bloomberg News survey yesterday.
If data remain strong, markets should price in further rate moves over 2015 and 2016 with CBA predicting the cash rate will be 3.5 percent by the end of next year, Kerr said.
Optimism about the Australian economy was bolstered today after China, the nation’s largest trading partner, reported export and import growth that was at least twice as fast as economists predicted. Imports rose 10 percent in January from a year earlier, while exports climbed 10.6 percent, official data showed. Australia’s two-way trade with China rose to a record A$141.8 billion in 2013, the statistics bureau said Feb. 6.
The Aussie rose 0.2 at 90.57 U.S. cents as of 2:12 p.m. in Sydney after touching 90.61, the highest level in a month. It still trades 18 percent above its 20-year average even after dropping 12 percent in the past year.
Toyota on Feb. 10 followed Ford Motor Co. and General Motors Co. in announcing plans to quit manufacturing, marking the end of an industry that traces its roots to 1901. The Japanese company cited high manufacturing costs, an elevated currency and low economies of scale.
“History would suggest that the exchange rate is perhaps more a scapegoat than a suspect,” Adam Boyton, chief economist for Australia at Deutsche Bank AG in Sydney, wrote in a note to clients yesterday, adding that economic and RBA forecasts were unchanged by the developments. “Employment in the Australian manufacturing sector has been steadily declining as a share of total employment for 30 years.”
A report tomorrow will probably show that the unemployment rate climbed to 5.9 percent in January, matching the highest level since 2003, from 5.8 percent in the prior month and employers added 15,000 jobs, according to the median estimate of economists polled by Bloomberg.
“Employment is the last thing to fall into place, it’s a lagging indicator,” said Chris Dickman, a portfolio managers for Sydney-based Altius Asset Management Pty, which oversees A$500 million. The RBA will probably increase rates in the first quarter of next year as previous easings take effect and rising house prices create a “wealth effect.”
Business confidence climbed in January for the first time in four months, a report yesterday from National Australia Bank Ltd. showed. Separate data showed house prices surged 9.3 percent in the three months ended Dec. 31 from a year earlier, the biggest increase since 2010.
The Australian dollar’s slide to a 3 1/2-year low is also bringing cost pressures back in focus, Dickman said. The RBA upgraded its core inflation forecasts to 3 percent in the year ending June 30 and a range of 2.25 percent to 3.25 percent by December 2014, in the quarterly monetary policy statement released Feb. 7. It said it expects price increases to be consistent with its 2 percent to 3 percent target.
“There’s a higher inflation pulse coming through and, within the RBA, a recognition of the diminishing returns from cutting rates further,” Dickman said. “Toward the latter part of this year, the market will start contemplating not one rate increase but many. So while we expect the first increase early in 2015, the market will move well ahead of that.”