Monthly economic e-news – October 2019
18 October 2019
By Craig Turnbull
Chief Investment Officer.
Rate cuts not making us more confident
Generous tax refunds and record low interest rates would normally boost people’s confidence, encouraging them to loosen the purse strings and spend a little more.
But the latest figures tell a very different story. The Westpac-Melbourne Institute index of consumer sentiment plunged to just 92.8 in October with the pessimists now far outnumbering the optimists.
Source: Trading Economics, Westpac-Melbourne Institute
Why have we become so pessimistic?
According to the Westpac-Melbourne Institute survey, consumer sentiment has fallen to a four-year low with Australians now much more pessimistic about their family finances and the health of the broader economy.
Many people are increasingly concerned about the lack of progress in the US/China trade negotiations and the speculation of a possible global recession in the short to medium term.
However, there may be other reasons for the sharp fall in October. Namely, the Federal Government’s unwillingness to look beyond tax cuts to stimulate demand, the reluctance of major banks to pass on the full interest rate cuts, and persistent low wage growth in the private sector.
And it’s a similar story for business.
Although the latest NAB Monthly Business Survey reveals that business confidence fell only slightly in September, it is still marooned 6 index points below the long-term average.
According to NAB, weak consumer spending has eroded confidence in the retail and wholesale distribution sectors, while the global trade tensions and the slowdown in the housing sector have affected confidence in manufacturing and construction.
Where to from here?
It’s expected that the Reserve Bank (RBA) will cut rates further but it’s becoming clear that interest rate cuts alone are unlikely to substantially boost confidence.
This has sparked discussion about the benefits of a quantitative easing program similar to ones implemented by central banks in the US and Europe in the wake of the global financial crisis.
If the RBA does decide to employ such a program, it would be tailored to the current environment, and it would likely be comprised of two main parts.
Firstly, the RBA would provide strong forward guidance. For example, a promise to keep interest rates low until certain inflation and unemployment targets are met.
Secondly, the bank may start purchasing government bonds in order to drive down long-term bond yields and reduce borrowing costs for consumers and business.
Some estimate the RBA would need to purchase at least $200 billion in government bonds to have any meaningful impact on inflation and the unemployment rate.
However, access to cheap money can have a downside. Investors often take advantage of lower borrowing costs to shift into riskier investments, rapidly inflating the prices of assets such as shares and property.
Overseas experience suggests that quantitative easing can be a high stakes game with no guarantee of long-term success.
So what does it mean for investors?
In a volatile, low rate environment, larger investors such as super funds can earn good returns from alternative investments like private equity and infrastructure. These investors also have systems in place to mitigate and manage risk.
But individual investors usually have access to a much narrower range of alternative investments, and have a limited understanding of the risks inherent in these assets.
That’s why it’s good idea to ensure you speak to a financial planner about risk before making any significant changes to your investment strategy.
Markets at a glance
for the month ending 30 September 2019
Australian shares1 up by 1.84%
Australian Government Bonds yield2 up to 1.005%
Australian dollar up to US$0.6749
Cash rate3 steady to 1.00%*
International shares4 up by 1.94%
*RBA reduced the official cash rate to 0.75% on 2 October 2019
1 ASX 200 Accumulation Index
2 Yield on 10 year Australian Government Bonds
3 RBA cash rate
4 MSCI – World ex Australia (USD)