Overview | Statement on Monetary Policy – February 2024 (2024)

Inflation continues to moderate but remains high.

Inflation continues to moderate and is expected to return to the targetrange of 2–3percent in 2025 and to reach the midpointin 2026. Goods price inflation has declined but services price inflation remains high,supported by continued excess demand in the economy and strong domestic cost pressures,both for labour and non-labour inputs.

Higher interest rates are working to establish a more sustainable balance between demand in theeconomy and its overall capacity to supply goods and services. The staff’s assessmentis that the stance of monetary policy in Australia is currently restrictive, based on financialindicators and the ongoing easing in the growth of aggregate demand. Conditions in the labour market continue to easegradually, although they remain tighter than is consistent with sustained full employment and inflationat target. A period of subdued demand growth and moderate employment growth over the coming year or twowill bring about a better balance between supply and demand.

Cash rate target unchanged to support inflation returning to target.

High inflation hurts all Australians. It erodes purchasing power and the value ofsavings and makes it harder for businesses to plan and invest. It adversely affects all Australians,but particularly those on low incomes. Low and stable inflation, consistent with the inflationtarget, facilitates strong and sustainable growth in the economy over the longer term. The bestcontribution that monetary policy can make to the wellbeing of the Australian people is to ensurethat inflation returns to target in a reasonable timeframe.

At its February 2024 meeting, the Reserve Bank Board decided to leave the cash rate targetunchanged at 4.35percent.This decision supports progress of inflation to the midpoint of the 2–3percent target rangewithin a reasonable timeframe and continued moderate growth in employment. The Board expectsthat it will be some time yet before inflation is sustainably in the target range, and the Boardremains resolute to return inflation to target in a reasonable timeframe. The path of interestrates that will best ensure this will depend upon the data and the evolving assessment of risks,and a further increase in interest rates cannot be ruled out.

What is going on in the economy?

Global inflation remains high but there has been encouraging progress towards central banks’targets.

Much of the easing in inflation to date in advanced economies has been due to lower energy andgoods price inflation. Services price inflation remains elevated, partly reflecting stilltight labour markets. Economic growth has slowed to below trend in many advanced economies in response torestrictive monetary policy settings and is contributing to returning inflation to target. In the UnitedStates, economic growth has remained robust while inflation has continued to decline.

Monetary policy settings in advanced economies are restrictive, but broader measures of financialmarket conditions have eased over recent months. Amid better-than-expected global inflationdata, market participants expect central banks to start easing their policy rates over coming quarters.Government bond yields have fallen and spreads on riskier asset classes have declined. Many centralbanks expect inflation to gradually return to target on a sustained basis over the next year or two.However, they have indicated that rate cuts may not come as soon as market participants expect as theyawait more evidence that the moderation in inflation will be sustained. Overall, the Australian dollarhas been little changed.

In Australia, growth in demand has slowed noticeably.

A large share of the increase in the cash rate since May 2022 has been passed on toborrowers. The most recent cash rate increase in November 2023 has been passed through toadvertised rates, and most remaining low fixed-rate loans will roll off onto higher rates over 2024. Theshare of household incomes used to meet mortgage payments is high by recent historical standards andstill rising. Housing credit growth has stabilised at a lower level than in 2022, although new lendinghas risen over the past year.

Tighter monetary policy has contributed to a noticeable slowing in the growth of demand over the pastyear. Household spending growth has been weak, and in per capita terms spending hasdeclined. This has been only partly offset by strong growth in business investment, public sectorspending and spending by international students and tourists.

High inflation as well as higher interest rates and tax payments have weighed on householddisposable incomes. In aggregate, households have responded to these pressures by curbingtheir spending, particularly on discretionary items. Households are saving less and, in some cases,drawing down on their accumulated savings buffers. Timely indicators, including from the RBA’sliaison program, suggest that growth in consumer spending has remained subdued this year so far.

Labour market conditions remain tight but have continued to ease over recent months.

Employment growth has gradually eased and average hours worked have declined in recentmonths. At the same time, the supply of labour has increased with strong population growthand record high labour force participation (although population growth also adds to aggregate demand). As a result,the unemployment rate and the underemployment rate have both increased by around ½percentage pointsince mid-2023 but from very low levels.

Wages growth remains robust, although there are signs that it is slowing in somesegments of the labour market. Firms expect wages growth to ease more broadly over the year ahead. Veryweak productivity outcomes have contributed to a sharp increase in labour costs per unit of output overthe past year.

Demand in the Australian economy has continued to exceed supply, but subdued demand growth is closingthis gap.

The staff’s overall assessment is that the aggregate level of demand has remained above theeconomy’s capacity to supply goods and services, thereby putting pressure on inflation. The labour market has also remained tight relative to what would be consistent with sustainedfull employment and inflation at target. This assessment is discussed in more detail inChapter 2: Economic Conditions andChapter 4: In Depth – Full Employment.

Inflation has moderated but services price inflation remains high.

Recent data confirm that inflation in Australia continues to slow. Both headline andunderlying inflation declined in the December quarter by slightly more than had been expected at the timeof the November Statement. Goods price inflation was weaker than expected, a pattern alsoseen overseas. Services price inflation, which largely reflects conditions in the domestic economy,remained high and was broadly in line with expectations.

How do we see the economy developing?

Economic growth is expected to slow both at home and abroad.

Economic growth in Australia’s major trading partners is expected to slow in 2024 and remainwell below its pre-pandemic average for some time. This outlook is largely unchanged fromthat in the November Statement. In China, growth is expected to slow over the next two yearsas the post-pandemic rebound in services consumption fades and the property sector remains weak.

In Australia, overall demand growth is expected to remain subdued in the near term as highinflation and earlier interest rate increases continue to weigh on consumption. Thenear-term outlook for GDP growth has been revised down modestly since November, primarily reflecting aweaker outlook for consumer spending. The decline in real incomes over the past couple of years isexpected to continue to weigh on consumption, particularly in the first half of 2024. As inflationmoderates and real incomes start to rise, consumption growth is expected to recover to its pre-pandemicaverage over the next couple of years.

Conditions in the labour market are expected to ease further in the next year or so to be broadlyconsistent with sustained full employment while inflation declines toward the target. Employment is expected to continue to grow moderately, but more slowly than the working-age population,and so the unemployment rate and the broader underutilisation rate are expected to increase further.Nominal wages growth is expected to remain robust in the near term, before moderating in response toeasing in the labour market. The outlook for wages growth is consistent with the inflation target,on the assumption that productivity growth increases to around its long-run average.

Inflation is expected to decline to be in the target range of 2–3percent in 2025 and to reach the midpoint in 2026.

Services inflation remains high and is expected to decline only gradually as demand for servicesmoderates and growth in labour and non-labour costs eases. Goods price inflation is expectedto be subdued over coming years, having already declined substantially over the past year as theresolution of earlier supply disruptions flowed through to prices paid by consumers.

These forecasts are conditioned on a path of the cash rate target based on expectations of marketeconomists and financial market pricing. In this path, the cash rate is around its peak in the currentcycle and will remain around this level until the middle of the year, before gradually declining over theremainder of the forecast period.

The outlook is still highly uncertain.

The full effect of policy tightening on household consumption is uncertain. The squeezeon household finances, including from the increases in interest rates to date, could result in householdconsumption remaining subdued for longer than expected. This would put more downward pressure on labourdemand and wages and see an earlier return to the inflation target than forecast. This could also occurif economic growth among our trading partners is slower than forecast.

Developments in the economy could prolong the time it takes to get inflation to target. Household consumption could turn out to be stronger than forecast if households are more willing tomaintain a low saving rate or even draw down on their savings to support their spending. Other things equal, poorproductivity outcomes would underpin higher-than-expected costs for businesses and put upward pressure onthe prices paid by consumers. Adverse shocks caused by weather-related or geopolitical events thatdisrupt supply could also put upward pressure on prices of energy and consumer goods and prolong the timespent away from target.

The longer it takes to return inflation to target, the greater the erosion of the purchasing powerof Australian households, and the greater the risk that inflation and wage expectations drift higherthan is consistent with inflation at target. History shows that, should this occur, it wouldrequire more monetary policy tightening and a costly period of higher unemployment to stabilise inflationexpectations and return inflation to target.

What did the Board decide?

The Board decided to leave the cash rate target unchanged at4.35percent. This decision balances the objectives of monetary policy bysupporting the return of inflation to target in a reasonable timeframe with gradual easing inlabour market conditions to levels consistent with full employment. The Board expects that itwill be some time yet before inflation is sustainably in the target range. The path of interestrates that will best ensure that inflation returns to target in a reasonable timeframe willdepend upon the data and the evolving assessment of risks, and a further increase in interestrates cannot be ruled out.