Policy Makers Views on Risks Begin to Diverge

Last week has seen a flurry of central bank communications as the RBA, FOMC and BoE all met deliberate on policy. Evident in their decisions and commentary is a growing divergence in expectations around inflation and the risks to the policy outlook.

The RBA delivered only a 25bp hike at its November meeting. However, their revised forecasts for inflation in 2022 and 2023 for highlight the current strength of price pressures in Australia and their expected persistence. Most likely the peak of 3.85%, with 25bp increases to be delivered in December, February, March and May.

This week’s Australian data flow meanwhile largely focused on housing. Corelogic’s 8 capital city measure reported a 1.1% fall for October, leaving prices 6.6% below their peak level. The pace of price declines slowed in Sydney and Melbourne, but accelerated in Brisbane.

While inflation will continue to decelerate through 2023, there is a question as to how patient the FOMC is willing to be in assessing the cumulative economic effect of policy tightening. Also critical will be how market participants price expectations for growth and inflation into nominal and real yields.

The risk for the US is clearly that the tight stance of policy leads to recession and a prolonged period of sub-trend growth, even after rates begin to decline in 2024.