RBA Sees Economic Recovery Pushing Through Omicron Scare

(Bloomberg) -- Australia's central bank left monetary settings unchanged, citing uncertainties from the omicron strain of the coronavirus while highlighting positive signs in the labor market and broader economy. 

The Reserve Bank held its key interest rate at a record low 0.1% -- as expected -- saying accommodative policy is still needed to push unemployment low enough to drive wages higher. It reiterated that it won't hike until inflation is well within the central bank's 2-3% target.

The RBA was more upbeat on the economy's prospects, saying omicron wasn't expected to derail the recovery and predicted a return to the strong growth trajectory seen before recent lockdowns. Governor Philip Lowe noted high rates of vaccination as well as a solid rebound in household consumption. 

The remarks helped push the local dollar higher to 70.82 U.S. cents. Sovereign bonds added to their declines, with three-year yields rising seven basis to 0.94% and 10-year yields climbing six basis points to 1.64%. 

The governor's upbeat statement has economists now seeing a greater chance the RBA will scrap its A$4 billion ($2.8 billion) a week quantitative easing program at the first meeting of 2022, when it's due to be reviewed.

“There is now a clear risk the RBA announces the cessation of the bond buying program in February,” said Gareth Aird, head of Australian economics for Commonwealth Bank of Australia. His base case is a taper to A$2 billion but “it's edging towards a lineball call between them announcing a further taper or exiting QE.”

Lowe said February's decision would be guided by three considerations: 

• The actions of other central banks;
• How the Australian bond market is functioning; and
• “Most importantly, the actual and expected progress toward the goals of full employment and inflation consistent with the target”

Bond traders are already sending signals to end QE amid fading new issuance from the government. An expected acceleration in tapering by the Federal Reserve in response to surging U.S. inflation will also be influential in Lowe's thinking.

What Bloomberg Economics Says

“There's a good chance the RBA could end its bond purchase program as soon as February 2022. While there is uncertainty around the potential impacts of the omicron variant, bond markets are already feeling significant strains from the RBA's ownership of most bond lines.”

-- James McIntyre, economist. For the full note, click here

In today's statement, Lowe maintained it will take time for a stronger economy to translate into increased price pressures, signaling rates will remain on hold for longer than markets expect. 

“While inflation has picked up, it remains low in underlying terms,” Lowe said. “Inflation pressures are also less than they are in many other countries, not least because of the only modest wages growth in Australia.”

Markets see a 15-basis-point rate rise by mid-2022 and two subsequent quarter-point increases -- with a chance of third -- over the rest of the year. 

Lowe has time to reflect given there's no meeting in January, allowing him to look at what other central banks are doing, the impact of omicron and how the economy is tracking, said Su-Lin Ong at Royal Bank of Canada. 

If the RBA decides to scrap QE altogether it “would likely be a green light for markets to price in even more tightening sooner,” Ong said. “We are not sure that is the message the RBA wants to convey.  Luckily it has the summer to think about it.”

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