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Speaker 1: Welcome to the Fear and Greed Business Interview. I'm Sean

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Speaker 1: ail May. Yesterday afternoon, the Reserve Bank Board left the

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Speaker 1: official cash rate on hold at three point eighty five percent,

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Speaker 1: a surprise decision given most economists and financial markets expected

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Speaker 1: a reduction of twenty five basis points. In the press

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Speaker 1: conference after the announcement, Governor Michelle Bullock was at pains

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Speaker 1: to explain that the decision didn't mean that the Central

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Speaker 1: Bank is thinking differently about rates. Rather, it's a timing

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Speaker 1: issue to run through yesterday's announcement. I'm joined by Westpac

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Speaker 1: chief Economist Lucy Ellis, who of course used to be

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Speaker 1: the chief economist at the Reserve Bank. Lucy, welcome back

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Speaker 1: to Fear and Greed.

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Speaker 2: Thanks very much, Shaw, and great to be here.

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Speaker 1: What do you make of yesterday's decision and the press

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Speaker 1: conference afterwards, well, Sean.

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Speaker 2: The Reserve Bank Board said in its May Minutes that

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Speaker 2: it wanted to approach policy in a cautious and predictable way,

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Speaker 2: and it has to be said that this week's decision

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Speaker 2: really does err on the side of caution rather than predictability.

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Speaker 2: While they do say that they've got in the next

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Speaker 2: four weeks, you know, a full quarterly CPI and the

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Speaker 2: labor force numbers. It's honestly speaking, not a lot of

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Speaker 2: new information, and nothing that they get in the next

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Speaker 2: little while is really going to change the decision that

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Speaker 2: rates are headed down. So the real question was what

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Speaker 2: are you waiting for? And it does seem that the

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Speaker 2: RBA has gotten itself into a bit of a view

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Speaker 2: that you know, they can't look at the monthly CPI

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Speaker 2: indicator as an indicator of the quarterly I mean, we

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Speaker 2: have two thirds of the information now, and while it

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Speaker 2: is pointed to something as shade above what they were

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Speaker 2: forecasting in May, it's not a big difference. It's like

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Speaker 2: there's nothing they're going to learn in the next five

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Speaker 2: weeks that will change their mind. And so it's almost

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Speaker 2: not a surprise that the decision was split six three,

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Speaker 2: because you know, I think that was a very finely

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Speaker 2: balanced judgment. And you know, the argument to wait was, well,

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Speaker 2: we're waiting because we can, and we're being cautious rather

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Speaker 2: than you know, policy is restrictive. You know, inflation's at target.

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Speaker 2: You know, we don't need to be as restrictive as

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Speaker 2: we were. And I think what was really interesting in

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Speaker 2: the media conferences, they didn't really talk about the stance

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Speaker 2: of policy that much. They didn't highlight that policy was restrictive.

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Speaker 2: But what they did emphasize is, you know, relatively dated

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Speaker 2: information about inflation that was only barely within the band.

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Speaker 2: So they emphasized trim mean inflation year ended March quarter. Well, firstly,

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Speaker 2: we're in July. We have two thirds of the information

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Speaker 2: about June quarter and a year rended calculation. I mean,

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Speaker 2: half of the information is from the middle of last year.

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Speaker 2: So they're using quiet dated information to make that assessment.

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Speaker 1: Do you think there's something going on non economically inasmuch

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Speaker 1: as we have a new Montrey policy setting board, it

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Speaker 1: operates differently to what it did kind of four or

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Speaker 1: five meetings ago. The fact that people are voting. We

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Speaker 1: found out that it was a six to three split

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Speaker 1: decision yesterday. All this information does it just make it

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Speaker 1: harder for the Reserve Bank to kind of know what's

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Speaker 1: going to come out of the meeting before it goes

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Speaker 1: into the meeting, compared to let's say, twelve months ago

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Speaker 1: when you were there. For example.

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Speaker 2: Look, I think people need to understand that the board

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Speaker 2: were not patsies. They were not a rubber stamp, and

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Speaker 2: it was a misreading of the dynamics of the board

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Speaker 2: and the conduct of the board to assert that they

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Speaker 2: were just a rubber stamp. I mean, these are very

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Speaker 2: distinguished people who are accustomed to making decisions under uncertainty.

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Speaker 2: The assumption that they're just a rubber stamp was false.

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Speaker 2: I mean, you know, why would the staff put up

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Speaker 2: a recommendation that they didn't think they could get up.

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Speaker 2: So I think this one was quite finally balanced, and

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Speaker 2: I do wonder quite what was going on. I mean,

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Speaker 2: I don't think it was the case that, you know,

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Speaker 2: the internal people, you know, the governor, the deputy governor,

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Speaker 2: and the new Secretary of Treasury were the ones who

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Speaker 2: voted for a cut. I think that. I think it

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Speaker 2: was three external members who voted for a cut. It's

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Speaker 2: a bit hard to know that. They'll never reveal that,

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Speaker 2: but that's just my sort of read of how things

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Speaker 2: have played out. But the idea of oh we can

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Speaker 2: wait another five weeks, will you didn't need to what? Like,

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Speaker 2: it's not clear what the confirmation they needed. You know,

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Speaker 2: why are they still not convinced that inflations inside the

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Speaker 2: band and sustainably there, So you know, let's then look

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Speaker 2: at the things that they cite as indicators why they

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Speaker 2: wanted confirmation. You know, they're talking about the recovery and

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Speaker 2: private sector demand growth. Well, we do well expect that,

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Speaker 2: but they have been disappointed by that over recent quarters

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Speaker 2: and have had to revise their consumption growth forecast, their

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Speaker 2: near term consumption growth forecasts down. They're obviously concerned about

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Speaker 2: inflation picking back up again, and particularly about unit labor

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Speaker 2: costs and low productivity. And I thought it was interesting

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Speaker 2: in the media conference after the meeting that the governor

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Speaker 2: talked about a conundrum that inflation was coming down but

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Speaker 2: unit later costs were high. And our view at Westpac

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Speaker 2: Economics is really that what we're seeing there is a

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Speaker 2: central bank that still puts a lot of weight on

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Speaker 2: this sort of unit labor cost idea, on a whole

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Speaker 2: of economy productivity growth concept that isn't actually that important

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Speaker 2: for determining inflation. And this is something we've been talking

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Speaker 2: about for about a year at Westpac Economics, but it

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Speaker 2: is just something that you know, they don't come to

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Speaker 2: their views about the economy lightly. They do put a

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Speaker 2: lot of effort and care and modeling into their view

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Speaker 2: and so they don't change their mind lightly either.

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Speaker 1: Okay, stay with me, Lissy will be back in a minute.

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Speaker 1: I'm talking to Lizzie Ellis, chief economist at Westpac just

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Speaker 1: before the break. You're talking about unit labor costs and

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Speaker 1: just westpac economics view on that Reserve banks view on that.

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Speaker 1: I just want to delve into that a little bit more. So.

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Speaker 1: I wasn't quite with you on what you were saying,

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Speaker 1: is the reserve bank is it an outdated idea, the

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Speaker 1: idea of productivity and unit labor costs.

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Speaker 2: I don't think it's an outdated idea, but I just

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Speaker 2: think it's one that needs to be handled with care

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Speaker 2: and not taken literally. So there's still this concern that

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Speaker 2: inflation might not be sustained at the midpoint of their

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Speaker 2: target range. They're still concerned about upside risks to inflation

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Speaker 2: for two reasons. One is the labor market is tighter

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Speaker 2: than what their models are telling them full employment is.

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Speaker 2: And secondly, measured productivity growth is quite weak, and they're

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Speaker 2: reading that as a reason to be concerned that unit

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Speaker 2: labor costs could start pushing up, putting upward pressure on

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Speaker 2: overall costs. And although the moment, businesses are struggling to

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Speaker 2: pass this on, and the Reserve Bank acknowledges this. They

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Speaker 2: just think that's sort of an upside pressure on domestic inflation.

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Speaker 2: And I think our response to that would be firstly

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Speaker 2: the productivity growth. And you just remember, this is just

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Speaker 2: GDP divided by ours worked. It's just stuff divided by time.

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Speaker 2: And the problem is that the stuff divided by time

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Speaker 2: includes sectors like the mining sector, which don't have much

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Speaker 2: impact on domestic inflation, but also the non market sector

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Speaker 2: your health and education and childcare and disability care, where

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Speaker 2: the price isn't set in a market, and so the

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Speaker 2: idea that prices are a markup over costs, including labor costs,

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Speaker 2: is just not relevant. And if you restrict yourself to

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Speaker 2: the parts of the economy where it's a reasonable assumption

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Speaker 2: or a reasonable thesis that prices are indeed some kind

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Speaker 2: of markup over costs and the prices are set in

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Speaker 2: a market, and this is relevant for domestic inflation, that

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Speaker 2: bit of productivity is actually doing okay. And this is

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Speaker 2: something we've been saying for quite some time, but it's

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Speaker 2: just taking the RBA a while to sort of shift

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Speaker 2: away from the kind of the thesis that they had,

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Speaker 2: and then I was saying, well, you know, if productivity

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Speaker 2: growth doesn't pick up, then wages growth will have to slow.

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Speaker 2: It's like, well, if productivity growth doesn't pick up, well,

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Speaker 2: then firms won't accept wage increases as big as they

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Speaker 2: currently are. So this is sort of self correcting. We're

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Speaker 2: just a lot less worried about this, and this is

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Speaker 2: something we've been writing about for a while.

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Speaker 1: It's nice to hear some good news on productivity back

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Speaker 1: to rates. Rates will fall though at some point in

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Speaker 1: the next few months. Lucy, Yeah, well.

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Speaker 2: I mean if you listening to the press conference, I mean,

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Speaker 2: it really felt like, unless they get an upside surprise

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Speaker 2: in the Dune Court a CPI, they're going to cut

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Speaker 2: in August. I mean, you're saying, in the next five weeks,

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Speaker 2: we're going to see this and we're going to have

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Speaker 2: another opportunity to review. You know, I think there's a

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Speaker 2: different We did say we're you know at the time

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Speaker 2: that we didn't think that a rate cut in July

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Speaker 2: was a shoe in, and that they were wanted to

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Speaker 2: be cautious, and you know, in retrospect, I should have

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Speaker 2: said it's not a shoe in, you know, maybe not

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Speaker 2: change my call. I think we know we were right

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Speaker 2: to say, oh, there's there's a risk that they don't go,

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Speaker 2: and that the market was overpricing it. I am still

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Speaker 2: surprised that in the end they decided to hold. And

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Speaker 2: you know, the fact that was six' three SPLIT i

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Speaker 2: think shows you just how just how finely balanced that.

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Speaker 1: Was so what's your call now in terms of rate

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Speaker 1: cuts for the rest of the.

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Speaker 2: Year, well we are still expecting further rate, cuts Probably.

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Speaker 2: August this is now some chance that they delay. Further

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Speaker 2: they're obviously just you, know remaining to be, convinced BUT

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Speaker 2: i think more likely than. Not what we thought would

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Speaker 2: we thought would Be, august then we Thought july is

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Speaker 2: now going to Be. August and this is just tactics and.

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Speaker 2: Timing and then the other point being we had, said,

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Speaker 2: look we don't think that they're going to back that

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Speaker 2: up back to back to, back and sure, enough so

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Speaker 2: that just sort of cements the idea that if they

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Speaker 2: do cut In, august they're not going to back that

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Speaker 2: up with one In. September they're going to wait Till.

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Speaker 2: November so it's sort of like basically their statement On

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Speaker 2: monetary policy, Meetings so the quarterly meetings are the ones

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Speaker 2: that are, alive and they're going to wait till they've

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Speaker 2: got that full sweet information before. Deciding and so assuming

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Speaker 2: we're right about it now Being august for the next,

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Speaker 2: cut then you Know November February may THE smp ones

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Speaker 2: cautious and, predictable with an emphasis on, cautious AND i

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Speaker 2: think that also emphasizes, that you, know it's now more

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Speaker 2: likely that what we'd called as being the troph which

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Speaker 2: was two eighty, five is now more, likely because you,

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Speaker 2: know the more cautious they, are the more likely it

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Speaker 2: is that they get to the end of the year and, say,

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Speaker 2: oh criche actually inflation's undershot what we thought and we

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Speaker 2: need to do. More and that is the basis for

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Speaker 2: the two cups that we're expecting next, year is we

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Speaker 2: just think THE rba is going to get a bit caught.

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Speaker 2: Out our own forecasts do see trimmed meat inflation coming

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Speaker 2: into the lower end of the two to three percent target,

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Speaker 2: range and so you, know we just expect that they

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Speaker 2: get to the end of the year realized that their

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Speaker 2: previous forecast of two point. Six as far as the

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Speaker 2: eye can see wasn't what was going to play, out

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Speaker 2: and so they end up, saying, oh we have to

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Speaker 2: do a bit more and that's why we think there

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Speaker 2: are two more cuts next year as, well so two

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Speaker 2: this year too next.

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Speaker 1: Year, lucy thanks for talking To fear And. Greed thanks very.

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Speaker 2: Much shone always approves.

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Speaker 1: It There's Lucy, Ellis group Chief economist At. Westpac this

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Speaker 1: is The fear And Greed Business. Interview join us every

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Speaker 1: morning for the full episode Of fear And greed business

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Speaker 1: news you can. Use I'm Chane. Elma enjoy. Yourday