Donald Trump's tariffs have a large role to play in Australia's interest rates cycle
The widely held consensus had been strongly in favour of another 0.25 per cent cut to follow the previous one in May.
In the weeks since the Reserve Bank's decision, economic data has been mixed, with some elements such as the recent retail sales report providing support for the RBA's message of caution, while on the other hand, the recent substantial rise in unemployment was far more supportive of the cash rate being cut.
In several important ways the RBA's uncertainty about the path forward for interest rates is arguably justified.
Trump, Trade And Global Uncertainty
At a global scale, the implementation of the Trump Administration's various tariffs and threats of even greater trade barriers to nation's not willing to make a swift agreement with the United States remains a source of major questions for central banks around the world.
The challenge posed by tariffs to the path of interest rates was recently summed up by JPMorgan Chase (the world's most valuable bank) CEO Jamie Dimon at an event hosted by the Irish government.
'The market is pricing a 20% chance (of rising interest rates). I would price in a 40-50% chance I would put that as a cause for concern,' Dimon said.
Dimon went on to cite the Trump administration's tariffs, the restructuring of global trade and the growing U.S government budget deficit as inflationary forces impacting the path forward for interest rates.
While U.S interest rates can and do rise and fall independently of those of other nations, they are also the most important global benchmark.
Theoretically, the U.S Federal Reserve holding a higher interest rate than the RBA can have two major knock on effects for Australia. It can force a repricing of Australian interest rates to better reflect the global benchmark. Or if the RBA chooses to allow the distance between the RBA cash rate and the U.S federal funds rate to expand, it places downward pressure on the value of the Australian dollar in a vacuum.
A Mixed Bag For Australia
At a domestic level, there is also a high degree of uncertainty impacting the path forward for interest rates.
With government currently the driving force behind broader economic growth and employment growth in generally taxpayer funded sectors of the economy (public administration, education and, healthcare and social assistance) the main driver of the resilience of the labour market, it's challenging for the RBA to know exactly when a rate cut would be appropriate.
Meanwhile, the deeply mixed nature of retail sales growth depending on the lens with which it is viewed also complicates matters.
For example, looking at the latest headline retail sales showing a 1.2 per cent rise in turnover or June in a vacuum, it would be hard to justify a rate cut.
But when the focus is shifted to an inflation adjusted figure that looks at retail sales per working age adult, the data for the June quarter reveals a return to recession in per capita terms.
This is due to expansion of the population, the vast majority of which is occurring via migration acting as more or less the only driver of the retail economy in aggregate.
History And Market Pricing
Based on RBA rate cut cycles seen in the last 35 years, where the cash rate has been cut by at least one percentage point, the average rate cut cycle sees mortgage rates fall by approximately 33.3 per cent.
If we remove the rate cut cycles driven by major emergencies such as the Global Financial Crisis and the early 1990s recession, the average reduction in mortgage rates falls to 27.0 per cent.
If we were to see a similar reduction in interest rates today, we would see a total fall in the cash rate of approximately 1.75 percentage points.
This would leave the average payable rate on a variable mortgage for an owner occupier at 4.58 per cent.
In terms of the pricing of the future path of interest rates from financial markets, the next full 0.25 per cent rate cut is priced in for the RBA's August meeting, with the next expected to follow in November.
Overall, market pricing has interest rates falling by a total 1.33 percentage points, with the cash rate hitting a low of 3.02 per cent during the middle of next year.
The Outlook For Rates
While the direction of interest rates is ultimately in the hands of the Reserve Bank, under the current circumstances government is also playing a significantly greater role in influencing the path forward than has been historically normal.
With the growth in the domestic consumer economy concentrated in the 65 and over age
demographic and otherwise reliant on population growth, the level of migration set by the Albanese government will be vital in determining to what degree aggregate consumer demand is weak enough to warrant further cuts in interest rates.
Meanwhile, the level of employment growth stemming from government policy will also be a key consideration.
If the current pullback continues without a corresponding increase from the private sector, the urgency and magnitude with which the RBA approaches the ongoing rate cut cycle may
intensify significantly.
Ultimately, it's entirely possible that events beyond our shores end up playing a significant role in the direction of Australian interest rates, whether that be as a result of President Trump's tariffs or the Chinese economy slowing more swiftly than expected due to the ongoing trade conflict and still simmering domestic economic issues.
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