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PR Newswire
18-11-2014, 10:24 PM
Economic risks on the rise, but RBA remains cool
DAVID ROGERS THE AUSTRALIAN NOVEMBER 19, 2014 12:00AM
MINUTES from the Reserve Bank’s November board meeting observe that recent policy actions in Japan could increase capital inflows to Australia and thereby “hold the Australian dollar at a higher level than economic fundamentals imply”.
The Australian dollar has risen more than 6 per cent against the yen since Japan’s latest policy actions — which included increased asset purchases and a decision to increase the foreign equities and bonds held by the Government Pension Investment Fund — and the Reserve Bank’s trade weighted index has climbed to a 14-month high.
With the exchange rate rising, one of the main transmission mechanisms of monetary policy is becoming more restrictive at a time when mining investment is plunging and Australia’s main commodity exports are trading at multi-year lows.
Add to that the fact that the RBA’s monetary policy statement earlier this month effectively pushed out the bank’s expectation on the timing of a return to an “above trend” pace of economic growth from late 2015 to late 2016, and it’s clear that the economic risks have increased.
Interestingly enough, market pricing of the chance of an interest rate cut next July crept up to 24 per cent yesterday from 12 per cent last week, according to the overnight indexed swaps curve.
But the RBA maintains that a period of stability in interest rates is the most prudent course for now, as it expects resources exports to be boosted by a further expansion of iron ore production next year, as well as a “ramp up” of liquefied natural gas production.
It continues to expect low interest rates and population growth to continue supporting housing activity, and maintains its caution that investor loans continue to grow at a “noticeably faster rate”.
Moreover, while the RBA minutes acknowledge the prospect of Japanese capital inflows “holding” the exchange rate at a “higher level” than fundamentals imply, it doesn’t expect the current revival of the Japanese yen “carry trade” to push the Australian dollar substantially higher.
That’s a view shared by ANZ’s director of interest rate strategy, Martin Whetton. He estimates that GPIF’s additional allocations to Australia could be worth about $5 billion, not enough to materially boost the Aussie dollar, considering that additional asset allocations won’t occur all at once.
Whetton says there could actually be greater Japanese interest to sell the dollar and Australian bonds, at least in the short term, as policy holders cash in on sharp capital gains in their “Toshin” (mutual fund) investments from three years ago. He notes that some $13bn of 10-11 year supranational bonds (SSAs) were issued in 2011-12, and that the return on these policies would have increased about 40 per cent since then.
“Based on the historical knockout levels, this takes many policies into the zone where it would trigger the knockout clauses resulting in the assets being sold into the secondary market,” Whetton says.
A similar situation in early 2013 contributed to a 17 per cent fall in AUD/JPY and an 80 basis point rise in bond yields as Aussie dollar portfolios were liquidated.
“Given the historical precedent for the market, we see some risk that outflows will occur and a repeat of market conditions takes place,” Whetton says. “At best, we would expect to see a slowing in the purchases of new policies given FX and yield levels, which would be less supportive for these markets.
“For the currency, history suggests that we are at vulnerable levels; however picking the exact timing of the move is difficult. In 2013, the currency persisted above 100 for a few months, despite there being some evidence of the outflow manifesting in the Japanese flow statistics. There is some risk that this time is no different. We do not think that the recent extension of QE in Japan will provide a timely offset to the flow, just as it failed to in 2013.”
DAVID ROGERS THE AUSTRALIAN NOVEMBER 19, 2014 12:00AM
MINUTES from the Reserve Bank’s November board meeting observe that recent policy actions in Japan could increase capital inflows to Australia and thereby “hold the Australian dollar at a higher level than economic fundamentals imply”.
The Australian dollar has risen more than 6 per cent against the yen since Japan’s latest policy actions — which included increased asset purchases and a decision to increase the foreign equities and bonds held by the Government Pension Investment Fund — and the Reserve Bank’s trade weighted index has climbed to a 14-month high.
With the exchange rate rising, one of the main transmission mechanisms of monetary policy is becoming more restrictive at a time when mining investment is plunging and Australia’s main commodity exports are trading at multi-year lows.
Add to that the fact that the RBA’s monetary policy statement earlier this month effectively pushed out the bank’s expectation on the timing of a return to an “above trend” pace of economic growth from late 2015 to late 2016, and it’s clear that the economic risks have increased.
Interestingly enough, market pricing of the chance of an interest rate cut next July crept up to 24 per cent yesterday from 12 per cent last week, according to the overnight indexed swaps curve.
But the RBA maintains that a period of stability in interest rates is the most prudent course for now, as it expects resources exports to be boosted by a further expansion of iron ore production next year, as well as a “ramp up” of liquefied natural gas production.
It continues to expect low interest rates and population growth to continue supporting housing activity, and maintains its caution that investor loans continue to grow at a “noticeably faster rate”.
Moreover, while the RBA minutes acknowledge the prospect of Japanese capital inflows “holding” the exchange rate at a “higher level” than fundamentals imply, it doesn’t expect the current revival of the Japanese yen “carry trade” to push the Australian dollar substantially higher.
That’s a view shared by ANZ’s director of interest rate strategy, Martin Whetton. He estimates that GPIF’s additional allocations to Australia could be worth about $5 billion, not enough to materially boost the Aussie dollar, considering that additional asset allocations won’t occur all at once.
Whetton says there could actually be greater Japanese interest to sell the dollar and Australian bonds, at least in the short term, as policy holders cash in on sharp capital gains in their “Toshin” (mutual fund) investments from three years ago. He notes that some $13bn of 10-11 year supranational bonds (SSAs) were issued in 2011-12, and that the return on these policies would have increased about 40 per cent since then.
“Based on the historical knockout levels, this takes many policies into the zone where it would trigger the knockout clauses resulting in the assets being sold into the secondary market,” Whetton says.
A similar situation in early 2013 contributed to a 17 per cent fall in AUD/JPY and an 80 basis point rise in bond yields as Aussie dollar portfolios were liquidated.
“Given the historical precedent for the market, we see some risk that outflows will occur and a repeat of market conditions takes place,” Whetton says. “At best, we would expect to see a slowing in the purchases of new policies given FX and yield levels, which would be less supportive for these markets.
“For the currency, history suggests that we are at vulnerable levels; however picking the exact timing of the move is difficult. In 2013, the currency persisted above 100 for a few months, despite there being some evidence of the outflow manifesting in the Japanese flow statistics. There is some risk that this time is no different. We do not think that the recent extension of QE in Japan will provide a timely offset to the flow, just as it failed to in 2013.”