Australian Dollar Lags after Wages Vindicate RBA's Rate Scepticism

• AUD hits bottom of barrel, lifts GBP/AUD
• After wage data vindicates RBA's stance
• Keeps market rate expectations off-side
• Could limit any scope for AUD recovery

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The Australian Dollar was a laggard among major currencies midweek after an official measure of wage growth appeared to vindicate the Reserve Bank of Australia’s scepticism about market expectations for interest rates, which could limit the antipodean unit’s scope for recovery in the weeks and months ahead.

Australia’s Dollar was plumbing the bottom of the major currency bucket on Wednesday after ceded more ground to the U.S. Dollar than all of its most comparable counterparts in price action that contributed significantly to a buoyant performance from the Pound-to-Australian Dollar rate, which crept back above the 1.84 handle in midweek trade.

This was after the Australian Bureau of Statistics said that its wage price index had risen at a quarter-on-quarter pace of 0.6% during the three months to the end of September, in line with market expectations and up only 0.2% from the rate of growth seen in the prior quarter.

That lifted the annualised pace of wage growth to 2.2%, from 1.7% previously, returning the measure to pre-pandemic levels.

“To be fair, those increases were a bounce back from the two softest quarters (0.1% in Q3 2020 and 0.2% in Q2 2020) in the history of the series,” says Justin Smirk, an economist at Westpac, in a note following the release.

“While slightly higher than Westpac’s expectations this number is just returning to pre-Covid rates where wages were underperforming economic activity and so sits comfortably within the RBA’s view on wages,” Smirk also said.

Above: AUD/USD rate shown at 4-hour intervals alongside Pound-to-Australian Dollar rate.

• Reference rates at publication:
  GBP to AUD: 1.8450 \ AUD to USD: 0.7288
• High street bank rates (indicative): 1.7933 \ 0.7084
• Payment specialist rates (indicative: 1.8355 \ 0.7252
• Find out about specialist rates, here
• Or, set up an exchange rate alert, here

While Aussie workers’ wage packets expanded in the latest quarter the pace of growth remained a long way short of where it would need to be in order to satisfy the RBA that pay growth is sufficient enough to keep inflation rising at or around the coveted 2.5% target pace over the medium-term.

The RBA has been forthright about its estimation that Australian wages would need to grow consistently at around a 3% clip each year in order for the consumer price index to sustain the rate of growth targeted by the RBA, which has not been seen much less sustained throughout much of the decade preceding the pandemic

Hence why the bank had already cutting its interest rate twice in the six months before the coronavirus ever came along.

“Time will tell whether the market or RBA is correct. Markets remain sensitive to inflation news, signs of whether pricing pressures are likely to be more persistent than transitory or whether central banks are changing how they will respond,” says Mark Smith, an economist at ASB Bank in Auckland.

Alongside many other central banks in the developed world the RBA has long struggled to lift Australian inflation to the levels that it’s targeted to deliver, for a raft of reasons, and has candidly as well as concertedly emphasised to financial markets in recent months that abnormally high rates of inflation seen during the pandemic period are not enough to discount the experiences of earlier years.

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Yet some haven’t quite gotten the message as pricing in the overnight indexed swap market still implied on Wednesday that investors continue to anticipated that recent increases in inflation will lead the bank to lift its benchmark cash rate from 0.10% to more than 1% by the end of 2022, despite that the RBA has said several times that it’s likely to be 2024 before any increase in interest rates is required at all.

“I would like to repeat a point I made a couple of weeks ago – that is, the latest data and forecasts do not warrant an increase in the cash rate in 2022. The economy and inflation would have to turn out very differently from our central scenario for the Board to consider an increase in interest rates next year,” Governor Philip Lowe told an audience at an Australian Business Economists webinar on Tuesday.

While the financial market pricing indicates that investors still beg to differ with the RBA about the outlook for inflation and interest rates, the rub for the Australian Dollar is that if the bank turns out to be right in its forecasts then there will come a time once into 2022 when investors are left bitterly disappointed, with potentially adverse consequences that could limit any recovery of the currency over the coming months.

“We expect the RBA to keep the cash rate on hold in 2022, and our forecast November 2023 lift-off is towards the dovish end of consensus expectations. In the near term however, we do see a material risk that the RBA tapers QE more quickly at its February meeting than our current base case (for QE to wind down by May 2022) - potentially ceasing the program altogether,” says Andrew Boak, chief economist for Australia and New Zealand at Goldman Sachs, in a research piece outlining the bank’s views for the year ahead.

Above: Pound-to-Australian Dollar rate shown at daily intervals alongside AUD/USD rate.