While the US economy is seen as a leading indicator for the world, the US Fed is unlikely to be the first major central bank to start cutting interest rates, says AMP deputy chief economist Diana Mousina.
Mousina points out that the US was not the first nation to increase interest rates as inflation grew in 2022, and regardless, domestic growth conditions are the main element in any central bank's decision on rates.
Here's what's happening.
Where are we up to with inflation?
Markets were rattled this month after the US reported a third consecutive month of hotter-than-expected inflation.
On the day of the news, the S&P 500 Index (SP: .INX) closed down 1% and the Nasdaq Composite Index (NASDAQ: .IXIC) lost 0.8%.
The S&P/ASX 200 Index (ASX: XJO) fell 0.44% the following day and a further 2.57% over the next three trading days.
Major bank stocks also took a dive over this four-day period. Commonwealth Bank of Australia Ltd (ASX: CBA) shares spiralled 5.08% and National Australia Bank Ltd (ASX: NAB) shares fell 3.67%.
Markets did not like this news because sticky inflation will likely delay the US Fed's first interest rate cut.
This may impact the global economy, and possibly influence other central banks on the timing of their own cuts.
There were also concerns that stalled progress on reducing inflation in the US may mean the same would occur here. Mousina says this is unlikely, but it only takes a little uncertainty to move stock markets.
She said:
Expectations for US interest rates have an important bearing on financial market pricing for interest rates, which influences bond yields and equities.
The next round of quarterly inflation figures for Australia are due out tomorrow.
CBA senior economist Belinda Allen says the bank expects inflation to have fallen from 4.1% per annum in the December quarter to 3.4% per annum in the March quarter.
Why is US inflation sticky?
One reason is that US mortgage holders have not been impacted by rising interest rates as much as those in Australia. This means their spending has not been curtailed to the same extent.
The US is expected to book 2.7% gross domestic product growth in 2024. This compares to 1.5% in Australia, according to the International Monetary Fund.
Mousina explained:
Australia has had the largest increase in outstanding mortgage rates despite having the lowest increase in interest rates compared to its peers.
In contrast, US outstanding mortgage rates have barely risen, despite having one of the largest increases in rates across the major central banks.
The IMF also notes that US fiscal policy is supporting economic growth. The biggest example of this is the Inflation Reduction Act which will pump US$369 billion into the economy for clean energy investments.
When will major Western nations start cutting interest rates?
Mousina said the US Fed is likely to delay rate cuts until the second half of the year.
As for the rest of the world, the Bank of Canada and the European Central Bank are likely to cut interest rates in June.
Canada and the Eurozone have seen some of the largest increases in unemployment among Western nations at 6.1% and 6.5%, respectively.
Along with New Zealand, they have experienced the biggest slowdown in economic growth due to higher interest rates.
Mousina said:
New Zealand GDP growth was negative in the second half of 2023 (a technical recession).
Canada narrowly avoided a technical recession in the second half of 2023, but growth is low at under 1% per annum.
… Eurozone growth has been basically flat over 2022-23 from the impacts of high energy prices.
The Reserve Bank of New Zealand is likely to wait until July or August once inflation has lowered further.
Inflation has come down considerably in Canada and the Euro area, with headline consumer prices just above the 2% inflation target.
Services inflation in New Zealand is still high, despite the slowing in economic growth.
When will the RBA cut interest rates in Australia?
As for Australia, Mousina said:
… we have been expecting the Reserve Bank of Australia (RBA) to start cutting rates in June but the risk is a later start to cuts (like in August) as the RBA appears reluctant to cut interest rates before further confirmation of a slowing in inflation.
CBA is tipping the Reserve Bank will cut interest rates in September while ANZ is forecasting November.
