Those surprised by the Reserve Bank’s decision to keep rates on hold for a second consecutive month in April have something unlikely in common with South Africa’s Woolworths Holdings: underestimating Solomon Lew at their peril.
When announcing strong first-half results at Premier Investments last month, Lew predicted without hesitation that Glenn Stevens and his team would delay any follow-up rate cuts to the February easing until after the government hands down its federal budget on May 12.
With the next rate decision set for May 5, that means it will be June at the earliest before there is any further easing — if Lew has it right.
The comments from Lew flew in the face of strong pricing for a rate cut (75 per cent chance of an easing) and a sharemarket rally ahead of the April rate decision, which like March ended in no change to monetary setting, just as Lew predicted.
No one can forget that the last time Lew took a high-stakes bet he ended up cannily forcing Woolworths SA to pay him an over-the-odds $210 million for his Country Road stake to stop him blocking the takeover of David Jones. That was almost $40m more than the stake was worth a week earlier.
Lew’s March 23 prediction also came with a confident forecast that the 2015 budget will be more positive, after last year’s triggered widespread belt tightening.
“The government didn’t realise that their last budget wasn’t one that could be sold,” Lew said. “They are dealing with a very difficult Senate and I believe the government understands a lot better what’s required.”
Of the analysts polled by Bloomberg ahead of the April decision, only two have avoided a wrong call so far this year as the RBA wrong-footed many forecasters. The swaps market correctly called February’s cut, but erred in both March and April.
All 26 economists surveyed by Bloomberg last week expect a May reduction and markets continue to price a 75 per cent chance of a rate cut in May, while the yield on three-year bonds is a meagre 1.8 per cent.
The RBA’s minutes state that members saw a benefit in holding the cash rate at 2.25 per cent in March to allow time for the economy to adjust to the February rate cut before taking any further action. Members wanted to see more fiscal numbers before pulling the trigger, citing “advantages in receiving more data to indicate whether or not the economy was on the previously forecast path”.
Surely the federal budget counts as significant data, so the board may desist rocking the boat just a week before Joe Hockey’s big reveal.
This is not a foolproof assumption, as demonstrated by three May actions since 2008. Rates were lowered in May 2013, and slashed 50 basis points in May 2012. They were even hiked 25 basis points in the budget month of May 2010, though that was the sixth tightening since the previous October, so hardly a shock.
Although rate hikes are clearly more politically contentious than rate cuts, with the current policy so very accommodative the Reserve Bank is showing a firm reluctance to act again, and that could support Lew’s track record for savvy calls. But if Thursday’s ABS job figures are a shocker, the May easing camp will be fuelled.
The case for further easing was outlined by Bill Evans at the weekend – a still-robust currency and the recent shock to the terms of trade through a 25 per cent fall in the iron ore price. Evans also notes that the RBA tossed up holding rates for a 19th straight month in February and cutting in March instead, only plumping for February because it then had “the opportunity of early additional communication” with the Statement on Monetary Policy three days later.
With the next quarterly Statement on Monetary Policy due on May 8, Evans argues an easing is on the cards for May 5 based partly on this “quarterly strategy”.
RBC Capital Markets’ Su-Lin Ong also expects a May cut and forecasts a cash rate of 1.5 per cent within 18 months, although she concedes that “the hurdle to cut is probably higher than popularly perceived, with the RBA keen to drag out its dwindling ammunition”.
But if the budget is stimulatory, and the residential construction upswing and recovering consumer spending continue, Lew may get gloating rights and the wide and bold predictions of sub 2 per cent rates may never eventuate.