RBA Review: Two More 2025 Cuts After Election

Summary

• The RBA cautiously lowered the cash rate by 25bps to 4.1% at its February meeting. Three factors drove the easing bias, one held it back.
• 1) Moderating underlying inflation saw price pressures below RBA forecast. Forward-looking data suggests continued easing, too.
• 2) Subdued private demand growth has worried the RBA. They have baked in a weaker income profile, unlikely to calm their concern.
• 3) Easing wage pressures continued, with multiple measures suggesting less competitive wage setting ahead.
• 1) Labour market tightness worsened in ‘late 2024’. We blame seasonal shifts, rampant public sector hiring, and a workforce gap that has just returned to pre-Covid levels.
• We expect two more 2025 RBA cuts though election timing means it is unclear when the next will arrive.

Market Implications

• We remain short AUD/NZD (target: 1.06; stop: 1.13).

Cautious RBA Cuts Until Weaker Data

The RBA cut the cash rate by 25bps to 4.1% at its February meeting. They cited softer-than-expected inflationary pressures alongside subdued growth in private demand and easing wage pressures as reasons to ease. Labour market tightness drove caution and limited forward guidance.

We expect the RBA remains cautious into the election. Then, they should shift more dovish midyear on poor labour market seasonality and a likely worsening backdrop. We remain short AUD/NZD (target: 1.06; stop: 1.13).

Promising Signs for RBA Easing

The February move was a baby step – the first cut since November 2020. The Board wanted to retain monetary policy tightness but portray progress on their dual mandate. Three factors drove the decision:

1. Moderating underlying inflation. Q4 trimmed mean inflation was 0.2pp weaker than forecast (actual: 3.2% YoY; RBA forecast: 3.4%), while the monthly measure returned to the top of the target band for the first time since December 2021 (Chart 1). Surveys suggest core disinflation will continue, too (Chart 2). Meanwhile, the RBA forecasts trimmed mean inflation to average +2.7% YoY over the forecast horizon.

The Board also picked out abating house prices and, across multiple sectors, an inability to pass on cost increases. We expect real estate price growth can remain weak with transactions contracting (Chart 3). Meanwhile, even companies that found it comparatively easier to pass on costs are now struggling (Chart 4).

2. Subdued private demand growth. Economic growth has survived thanks to public growth, with the private sector contracting through the second and third quarter (Chart 5).

We are yet to jump on indicator positivity due to impact from a still-strong labour market – more below – and the start of a cautious easing cycle (Chart 6). Moreover, the RBA point to slower adjustment to improving real incomes. This will likely continue as those most leveraged (and those with the highest propensity to consume) favour prepaying mortgage payments, or meeting rent payments.

The RBA has baked in a weaker income profile. It expects real household disposable income to grow +3.1% YoY in Q2 2025, down from its previous forecast (+3.9% YoY).

3. Easing wage pressures. Signs are emerging for continued improvement with the vacancy:unemployment ratio decreasing alongside surveyed measures (Chart 7). Meanwhile, labour constraints, while high, continue to improve (Chart 8). This should mean weaker private sector wages.

We believe public sector wage increases reflects a catch-up more than a new trend. This matches 2019 RBA research. Therefore, wage pressures will keep easing, in line with Insights from Liaison.

RBA Wage Price Index forecasts are unchanged.

Labour Market Tightness Is Slowing Cuts

‘Labour market conditions have remained tight and, in fact, tightened a little further in late 2024.’ Punchy, and in line with their labour market suite (Chart 9). We blame seasonal shifts, rampant public sector hiring offsetting a private sector slowdown, and a workforce gap only just back to pre-Covid lows (Chart 10). It also meant their NAIRU estimate remained unchanged, at 4.5%.

Seasonal shifts likely unwind in April and May, in line with the past five years (Chart 11). January could show ‘fake’ weakness; recently, it has been popular for people to wait until February to start work. Meanwhile, we expect public sector hiring to slow as tax revenues slow.

Unemployment is now expected to increase and peak at 4.2% by June 2025. Previously, a 4.5% peak was expected by December 2025.

Outlook and Market Implications

The RBA’s cautious stance likely continues until the election is done. Thereafter, we expect labour market data can worsen, with already weak demand data, causing the new RBA board to fret. Additionally, we believe public growth can slow. We consequently expect two more RBA cuts in 2025. We remain short AUD/NZD (target: 1.06; stop: 1.13).

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)