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The Link Between Jobs & Interest Rates

The Official Cash Rate remains steady at the record low of 1.5 percent in Australia, with the Reserve Bank of Australia (RBA) having maintained its neutral stance for 30 long months. While most analysts have been expecting rates to rise before they fall, low jobs and wages growth may be enough to change the RBA's perspective. With inflation sitting at its lowest level since the third quarter of 2017 and employment conditions weakening, there are now multiple scenarios on the table for the RBA depending on what the economy does next.

There is an intimate link between interest rates and inflation, with more jobs and higher wages leading to more money in the economy and the possibility of a rate decrease in order to slow down the economy. On the other side of the coin, more unemployment or softer wages growth often leads to decreased consumer spending and the possibility of lower interest rates. The current level of inflation in Australia is 1.9 percent year-on-year, which is slightly below the 2-3 percent target set by the RBA.

While the RBA has been steady with an eye to increasing rates in recent months, their sentiment was noticeably changed in the latest announcement based on weak recent employment figures. While employment has grown by 2.2 percent over the last year, and 39,000 new jobs were created in January, the unemployment rate can't seem to drop below 5 percent. A number of analysts have noticed a weakening in employment conditions as big employment sectors such as retail and construction head further into contractionary territory.

According to Matthew Hassan from Westpac, "The leading indicators are softening but they are not pointing to a collapse in employment - at this stage... We believe that employment growth is set to stall through the first half of 2019 but our 5,000 [jobs lost] forecast for February is more about monthly volatility than the start of a new trend... The shift is clearly starting to affect businesses willingness to hire and invest." said Mr Hassan, adding "Both job loss concerns and rising risk aversion raise the risk of a further move by households to rein in spending and increase savings, all of which would be consistent with our expectation of a significant 'wealth effect' drag on demand."

Westpac's consumer survey has also turned pessimistic, due mostly to renewed concerns about job security. Westpac economists have already come out saying they think the central bank will cut the official interest rate by a total of 50 basis points in 2019, which would bring it down to 1 percent. With the ANZ job ads series also pointing towards low employment growth at less than 2 percent, pessimism based on a weak jobs market seems to be catching. While most analysts are expecting a smaller drop of 25 basis points in August this year, a lot will depend on employment figures between now and then.

According to RBA Governor Philip Lowe, the current neutral stance of the RBA could be altered to drop rates if and when needed: “With monetary policy already providing considerable support to the Australian economy, it is appropriate to maintain the current policy setting while we assess developments... Much will depend on what happens in our labour market... We have the flexibility to do this if needed. We are not on a predetermined course.”

Image source: BsWei


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