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Australian Rate-Cut Bets Pared After Surprise Election Result

Australian Rate-Cut Bets Pared After Surprise Election Result

(Bloomberg) -- A shock election win by Australia’s center-right government and its agenda of sweeping tax cuts has cast doubt on the outlook for interest-rate cuts ahead of two key readings on central bank thinking.

Traders are pricing in a 57% chance of a reduction in the cash rate in June, down from 70% Friday, as the Reserve Bank prepares to release minutes of this month’s meeting at 11:30 a.m. Tuesday and Governor Philip Lowe speaks about 90 minutes later. Traders also scaled back bets for July and August.

Stocks surged and the currency jumped in relief rallies Monday after voters rejected the opposition Labor party’s agenda of scrapping tax breaks for property investors and some shareholders. Instead, Prime Minister Scott Morrison’s improbable come-from-behind win means tax cuts in the pipeline and support for the property market. These boosts to household finances are giving markets pause.

“Our back of the envelope calculations suggest that the A$7.5 billion of tax cuts slated for 2019-20 would have nearly the same impact on disposable income as two 25 basis-point rate cuts,” said Michael Blythe, chief economist at Commonwealth Bank of Australia, who expects the RBA to hold. “The skew in tax cuts towards low‑middle income earners favors the lower half of the income distribution where a larger share of income is spent.”

Australian Rate-Cut Bets Pared After Surprise Election Result

Lowe delivered a fairly vanilla statement at the May 7 policy meeting as he sought to keep the RBA out of the cut-and-thrust of the election campaign. He did, however, signal unemployment will need to fall from current levels in order to eventually meet the bank’s 2-3% inflation target.

Yet data Thursday showed the jobless rate actually climbed to 5.2% in April, signaling a lot of slack in the labor market. That suggests shortages needed to drive wages and inflation higher are unlikely to emerge in the near-term.

Since Lowe took the helm in September 2016 the RBA has kept rates unchanged at a record-low 1.5%, and decision statements have been fairly straightforward. But the bank has been much more expansive on the board’s thinking in minutes of the policy meetings, released two weeks later, meaning they’re of increased interest to markets.

Meanwhile, Lowe’s speech to the Economic Society of Australia in Brisbane is titled “The Economic Outlook and Monetary Policy” -- a headline to make any RBA observer salivate.

What Bloomberg’s Economists Say

“Australia’s surprise election result could translate into less monetary easing than the market is now pricing, in our view. The re-election of Prime Minister Scott Morrison means tax perks for housing investors are no longer under threat -- a positive for a struggling market.”

--Tamara Mast Henderson, Economist
Click here for the full report

Morrison’s win, and the fact he took his tax program to the election, suggests he has a mandate to pass it through a senate where the government has no majority. But it will take time to draw up legislation, get it through parliament and enact it, leaving a stimulus gap ahead.

“The near term implications for the RBA over the next 3-6 months from the weekend’s result are limited,” said Su-Lin Ong, head of Australian economic and fixed-income strategy at Royal Bank of Canada in Sydney. “The case to cut in our view remains clear -- persistent sub trend growth with weaker domestic demand ahead, uncomfortably low inflation too far below target, a weakening labor market and uncertain global backdrop.”

Most traders and economists expect two quarter-point cuts, bringing the cash rate to a fresh record low of 1%. Some also expect the RBA, in order to deliver the stimulus the economy needs, will go even lower. Morrison’s tax cuts should start to impact when that debate is in full flight and could prove pivotal.

Tumbling house prices have eroded personal wealth and prompted households to cut spending, slowing economic growth. If the property market stabilizes, business confidence spurs more investment and tax cuts get Australians spending then Lowe can stand pat. That said, the brewing trade war between the U.S. and China means a key source of prosperity for Australia since the turn of the century is at risk.

“Policy makers will still need to deal with risks from the global economy,” Blythe said. “Domestically, the risks from high levels of household debt at a time of weak income growth and falling house prices also await.”

To contact the reporter on this story: Michael Heath in Sydney at mheath1@bloomberg.net

To contact the editors responsible for this story: Nasreen Seria at nseria@bloomberg.net, ;Malcolm Scott at mscott23@bloomberg.net, Chris Bourke

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