Is Australia heading for a recession?
On Wednesday, the deputy governor of the Reserve Bank of Australia warned that the outlook for the global economy is not good.
“It’s a bit on the cutting edge,” she said.
Less than 48 hours later, the Bank of England said Britain was probably already in recession.
There are growing concerns about the United States, which appears to be heading for a recession.
And the Chinese economy is under pressure from its zero-COVID policy and problems in its massive real estate market.
Will a recession in Australia be inevitable?
A ‘probable’ recession
RBA officials say they still have confidence in Australia at this point can prevent a recession.
They say that our exceptionally tight labor market and the level of savings in the economy can hopefully protect Australia from negative shocks coming from abroad.
But not everyone is optimistic.
Some economists suspect that because so many countries are raising interest rates in an uncoordinated frenzy, global growth will slow dramatically over the next 12 months and Australia will be unable to avoid the consequences.
Jo Masters, Barrenjoey’s chief economist, says a likely recession is “on the way” for Australia.
Why? Partly because the RBA will be forced to keep raising interest rates as long as other countries continue to do so, and it will send the Australian economy into recession territory.
The RBA’s target is currently 2.35 percent.
Ms. Masters said her modeling suggested a spot rate of around 3 percent would be enough to push inflation back into the RBA’s target range by early 2024, but the RBA will likely raise the spot rate to 3.35 percent.
“This will have economic repercussions – weakening growth prospects and seeing unemployment rise,” she said.
“B*Eco modeling suggests that this would drive the economy into recession.”
And what will happen if Australia is in recession?
Ms Masters said that when domestic economic activity begins to weaken rapidly next year, the RBA will eventually cut rates again to efficacy.
And those rate cuts will happen by the end of next year.
So the RBA will raise interest rates by more than it would like for the next few months — pushing the economy into recession — and then it will start cutting rates to make the recession as painless as possible.
“This should be enough to leave any recession as relatively short and superficial, and maybe that’s what it takes to solidify the path back to 2-3 percent inflation,” Ms Masters said.
She thinks the RBA will raise its target for the spot rate by 0.5 percentage points next month, from 2.35 percent to 2.85 percent.
Cash interest on the way to 3.6 percent?
Bill Evans, Westpac’s chief economist, has made a similar argument.
In July, he predicted that the RBA would raise the target for the cash interest rate to 3.35 percent, but this week he raised that forecast.
He said the stubborn outlook for high inflation and wage growth in the US, and rising interest rates worldwide, had changed his mind.
He also said he suspected the RBA would raise cash interest rates by another 0.5 percentage points next month.
But he now thinks the RBA will eventually raise the target for the spot interest rate to 3.6 percent early next year.
He said that as global central banks planned to continue raising rates, the RBA should follow suit to prevent the Australian dollar from losing too much value.
Why? For reasons similar to Mrs. Masters.
If foreign currencies gained too much value against the Australian dollar, it could encourage foreigners to buy more Australian goods and services than they would otherwise have done, making it harder for the RBA to keep inflation out of the Australian dollar. squeeze the economy.
Mr Evans said this is a key reason why the RBA does not want Australian cash rates to lag too far behind US key rates.
“Remember, the main reason the RBA reluctantly switched to quantitative easing in 2020 was to preserve the competitiveness of the Australian dollar,” he said.
“The RBA governor would be concerned that such a sharp widening of the expected yield differential with global rates will impact a weaker Australian dollar, complicating the inflation challenge.”
At the moment, he thinks the Australian economy will grow by just 1 percent by 2023.
In general, he thinks central banks are pursuing a policy of “least regret” by limiting inflation “at the expense of short-term growth.”
Roll back policy decades
David Bassanese, the chief economist at BetaShares, also thinks the RBA is likely to raise its target for the spot rate by 0.5 percentage points next month.
He said the RBA does not want the Australian dollar to lose too much value against other currencies.
“At $66c, the Australian dollar is already down 13 percent from its peak of $76c in April this year,” he said.
“My expectation is that the Australian dollar will end the year at around 62-63c dollars.”
So, is there an obvious coordination problem between global central banks?
As central banks everywhere are raising rates to kill inflation, it is creating pressure for those same central banks to keep raising rates to keep their currencies from losing value against other major currencies.
Meanwhile, the speed and magnitude of global interest rate hikes is pushing the world’s major economies into recession.
Earlier this week, RBA Deputy Governor Michele Bullock was asked if there was reason for some coordination among global central banks to stop the damage caused by rising US interest rates and a strengthening US dollar.
But Ms Bullock opposed the idea, saying it would roll back the policy decades.
“Exchange rates can play a very positive role,” she said.
“In Australia, we’ve typically thought of it that way because it gives us flexibility and the ability to largely run our own policies, without necessarily having to follow what others in other countries are doing.
“We’re not completely immune, but it does give us more flexibility.”
She said that despite everything, she didn’t think global central bank coordination was the right thing to do in this situation.
“In a sense, the US dollar is reacting to relative economic conditions and inflation and interest rates in the US, compared to other countries,” she said.
“That’s what you would expect.”