December cash rate hike probable after wage inflation ‘surprise’

Wage inflation has tipped above market expectations, dampening hopes of a slowdown in monetary policy tightening, according to recently released Australian Bureau of Statistics (ABS) data.

Its latest Wage Price Index (WPI) reported seasonally adjusted growth of 1 per cent over the third quarter of 2022 (Q3), up from 0.8 per cent in the previous quarter. 

The WPI rose 3.1 per cent in the 12 months to Q3, up from 2.6 per cent as at 30 June, it outlined.  

The Q3 result exceeded market forecasts of a 0.9 per cent increase over the quarter, and a 3 per cent rise over the 12 months to 30 September. 

According to ANZ Research, the Q3 WPI result reflected the “larger increase to minimum and award wages”, which had “flow-on effects” to some enterprise bargaining agreements (EBAs) and individual agreements. 

The stronger than expected WPI result, however, could quash expectations of a pause in the Reserve Bank of Australia’s (RBA) monetary policy tightening strategy, aimed at curbing high levels of inflation. 

“While we don’t think this figure will alarm the RBA, it is a large step-up from the (upwardly revised) 0.8 per cent q/q reading last quarter,” ANZ Research observed. 

“It’s therefore unlikely the RBA will pause in December; so, absent an exceptionally weak October employment report … (17 November), we continue to think they’ll raise the cash rate by 25 bps [basis points].”

Regional head of research at ING Economics Robert Carnell said he is also anticipating 25 bp hikes, noting that while “surprising”, the WPI result would not prompt an acceleration in the pace of tightening. 

“The RBA expressed concern in their latest statement about overdoing the tightening, and for this reason alone, they seem to be content to slow the pace of monetary adjustment right down to help them finesse the end game in this tightening cycle,” Mr Carnell said. 

“Consequently, even with the last inflation and [now's] wages data surprising on the upside, we don't believe they will shift back to their previous 50 bp pace of tightening and will continue at a 25 bp pace at coming meetings, with the peak for cash rates likely to come in 1Q23 as the cash rate hits 3.6 per cent.”

The RBA, he added, would be “keeping a weather eye” on the Australian dollar, with recent weakness “abruptly shattered” amid speculation of a monetary policy “pivot” from the US Federal Reserve. 

“The Reserve Bank will be keen not to encourage the AUD to rise much faster due to their actions,” he concluded.

Rate pause would be short lived

Additionally, a local Deutsche Bank economist is expecting Australia to slip into recession next year, underpinned by inflationary pressures and sharper-than-anticipated deterioration in labour market conditions. 

According to an analysis from Deutsche Bank chief economist for Australia Phil O’Donaghoe, headline inflation would end 2023 at 5.3 per cent, above the Reserve Bank of Australia’s (RBA) target of 4.7 per cent.

This would place further upward pressure on interest rates, with the RBA tipped to lift the cash rate to a “terminal rate” of 3.35 per cent by February 2023.

Yet Mr O’Donaghoe acknowledged growing “risks” that the RBA would pause its monetary policy tightening cycle as early as next month.

However a prospective pause would be short-lived, he added.

“If a ‘pause’ does happen, we expect it will be exactly that, i.e. a delay to further hikes rather than a sign that the hiking cycle is ‘done’,” he said.

“We still see the risks tilted to a higher terminal rate, but those risks have diminished over the past month.

“Recent RBA actions and commentary suggest that the hurdle for incremental tightening is getting higher.”

However, a softening in the RBA’s monetary policy stance is unlikely to translate into easing any time soon. 

“Our forecasts have inflation still well above target by the end of 2023,” Mr O’Donaghoe observed.

“With that, we now see a longer period of policy on hold — we don't think the RBA will be in a position to cut rates until mid-2024.

“Relative to market pricing, our forecast nonetheless calls for a lower terminal and shorter ‘tail’.”

A recession by different definition

As such, Mr O’Donaghoe is forecasting a “rate cut resistant recession”, characterised by lingering inflationary pressures and weakness in labour market conditions.

Mr O’Donaghoe said he is expecting a 1 per cent increase in Australia’s unemployment rate, tipped to hit 4.5 per cent by the end of 2023 — well above the RBA’s forecast of 3.7 per cent.

“If our forecast is realised, that would qualify as a recession on our definition, even if — as our forecasts assume — GDP avoids two consecutive quarters of negative growth,” Mr O’Donaghoe added.

“We have long considered that ‘technical’ recession definition singularly unhelpful for Australia.

“From a welfare perspective, a 1 per cent rise in unemployment within a year is a far more useful description.”

If labour market conditions reflect the RBA’s forecast, inflation would “prove far more persistent” than is currently expected.

This, Mr O’Donaghoe added, would heighten risks of a “higher terminal rate increase”.

[Related: ‘Even keel’ economy risk at 3.35% cash rate: CBA]