RBA Keeps Cash Rate Static at 0.25%, Maintains Upbeat Tone in Monetary Policy Meet

Broadly in line with market speculations, the RBA has maintained its existing policy settings in latest monetary policy meeting, retaining cash rate and three-year Australian government bond yield at 25 basis points.

The RBA kept its interest rates on hold despite some economists’ urge to push the rates to negative territory in order to support the deteriorating economy. During questioning before the Senate Select Committee on coronavirus pandemic last week, the RBA Governor, Mr Philip Lowe discarded the likelihood of negative interest rates in Australia, stating that the central bank would rather prefer buying government bonds if needed.

The total government bond purchases by RBA amount to $50 billion to date, with the central bank geared up to boost its bond purchases again if required to ensure smooth functioning of the bond market and attain the yield target on three-year Australian Government Securities (AGS).

The latest monetary policy statement knocked a more upbeat tone, with RBA anticipating economic downturn to less deep than earlier expected.

However, the central bank also mentioned that the nation’s economy is going through a very challenging phase, witnessing its largest economic downturn since the 1930’s.

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The bank expects the economy to face a long-lasting impact of COVID-19, with speed and nature of economic revitalisation remaining highly uncertain. However, one can draw some signs of optimism from the bank’s latest statement:

Fiscal and Monetary Policy Measures Aiding Economy

RBA notified that the coordinated, substantial and unprecedented easing of monetary and fiscal policy is aiding the Australian economy in this challenging phase. Besides, the central bank’s market operations are continuing to inject a high level of liquidity in the nation’s financial system.

Authorised deposit-taking institutions are very well utilising RBA’s Term Funding Facility, with total drawings of about $6 billion so far. The bank foresees further use of this facility over coming months, which is helping other banks borrow from the RBA at just 0.25 per cent, keeping their funding low.

Mr Lowe also believes that the fiscal policy would have to play a greater role in coping with the economic cycle going forward than it has done in the past. He mentioned last week that monetary policy has remained a mainstream instrument for the last 20 years to manage the business cycle and maintain inflation under control; however, when there would not be much scope left for monetary policy, fiscal policy would have to be utilised.

He also expects fiscal support to stay for a longer period of time, fearing negative repercussions of earlier withdrawal of fiscal stimulus on economy.

Economic Downturn to be Less Severe than Expected

With rate of infections falling considerably and early easing of restrictions, the central bank anticipates less severe economic downturn despite shocking unemployment numbers. RBA is most concerned about the state of labour market, which faced an unprecedented 9 per cent fall in total hours worked in April 2020, with over 600k losing their jobs and another 750k keeping jobs but working zero hours.

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According to RBA, though these April figures exhibit a pretty bad situation, it is not as bad as earlier expected, with industries most affected by lockdown experiencing some increase in employment. Besides, the central bank was previously expecting a fall of 20 per cent in total hours of work, which it now hopes to be not over a decline of 15 per cent.

To reflect the uncertainty in the economic outlook, the central bank discussed three different scenarios in its May monetary policy meet- baseline, upside and downside – based on sooner or later lifting of restrictions in Australia.

Baseline Scenario: Assuming the process of lifting restrictions to continue over coming months, the central bank anticipates gradual economic recovery over 2H 2020, with unemployment rate remaining higher and level of output staying lower.

Downside Scenario: In case lifting of restrictions are delayed or measures have to be re-imposed, the bank expects GDP to stay near its trough for many quarters and unemployment to reach close to its peak in 2021.

Upside Scenario: If restrictions are lifted sooner than expected, the central bank projects an upside scenario in which unemployment rate would fall more rapidly and the economy would recover faster than in the baseline scenario.

In a nutshell, there is tremendous uncertainty over the revitalisation of economy, with some indicators suggesting a bounce back while others signalling a downturn. However, the persistence of RBA’s accommodative approach, robust fiscal support from government and continued decline in new infections can brighten prospects of early economic revival.