Reserve Bank of Australia lowers rates as inflation eases

Transcript

hello everyone welcome to Russell Investments Market weekend review for the week ending February 21st 2025 my name is bin Lynn I'm a senior investment strategist and head of Canadian strategy here at Russell Investments on this week's edition of Market Beacon review we're going to be discussing three factors first we're going to talk a little bit about the Reserve Bank of Australia's decision next we're going to discuss the latest Canadian inflation data and finally we'll wrap up with a look at Chinese equities and what investors need to keep in mind so let's begin with the RBA earlier this week The Reserve Bank of Australia decided to lower interest rates by 25 basis points this marks their first interest rate cut for the cycle and overall The Reserve Bank of Australia was a little bit later than the other G7 central banks in terms of when they started their rate cutting process we expect that as inflation continues to gener moderate over time the Reserve Bank of Australia should be able to gradually take interest rates to a more neutral setting we also got two additional data points on the Australian labor market that were released after the rba's decision first on the wage pressure side wage pressures came in a little bit softer than expected and that's a positive development in terms of suggesting that over time inflation should be able to continue to moderate in Australia second the latest Australian unemployment data show that the unemployment rate Rose slightly but still generally in line with consensus expectations and so it suggests that the Australian labor market is gradually softening a little bit but nothing to be too alarmed about at this point in time so that would be supportive of the rba's decision to begin a gradual rate cutting process the second topic I want to discuss is the latest Canadian inflation data and we got data on both the consumer side and producer side of the equation and both pieces came in somewhat hotter than consensus expectations but I think it's important to keep the inflation data in the broader context of where the boc is on its inflation fight if we think about the Bo's preferred measure of core inflation it's at 2 1/2% which is already within the 1 to 3% Target ban and significantly down from the peak in addition when we look at the old measure of core inflation that the boc used to use that measure is now at 2.1% which is basically more or less 2% and so I think the boc is going to be a little bit more tolerant of a temporary setback in inflation than it would have been if inflation were higher and as long as inflation generally speaking over time continues to moderate that I think the Bank of Canada can continue the process of bringing interest rates eventually all the way down to around 2.75% in a neutral setting now of course in Canada the risk of an economic slowdown is a little bit more elevated than the risk in the US and if the Canadian economy were to tip into a recession then you could see the Bank of Canada cut rates even more meaningfully and even if the Canadian economy doesn't tip into a recession based on the labor market dynamics and based on the economic growth on a per capita basis being weaker than in the US I do think that you could see the Bank of Canada even take rates somewhat below that 275 neutral rate later this year just to give a little bit more support to the Canadian economy but of course they're going to be data dependent and in terms of the next march decision markets right now are pricing in less than a 50% probability of a rate cut but I am a little bit more open-minded I think it's quite possible that the Bank of Canada still has to cut rates and it's all going to depend on what the next Labor Market will likely show us as well as other key economic data points for Canada that we're going to get in the months to come finally in terms of Chinese equities Chinese equities have had a pretty strong month so far part of this is probably due to investor expectations around the potential for more stimulus as my colleague Alex koley wrote in an article recently China is going to be holding a major policy session later in March and at that session they're likely to announce their GDP growth Target for the year if they announce a target of around 4 and a half to 5% it means that they're probably going to have to do more stimulus now because of the pace at which Chinese equities have run up in the recent month it does mean that China's equities have become somewhat overbought relative to the broad Equity Market that being said Chinese Equity valuations still look quite reasonable to us and are more attractive than Equity Market valuations in the US and so we continue to think having that Diversified portfolio exposure including an allocation to China can be an important step for investors we think it's important to stick close to that strategic asset allocation thanks for tuning in hi I'm Sophie anel head of portfolio and business Consulting at Russell Investments if you liked what you just saw and heard consider subscribing to our YouTube channel or check us out on LinkedIn thanks for tuning in

Executive summary:

Australia’s central bank cut rates by 25 basis points
Canadian inflation ticked up during January
Chinese equities have rallied on investors’ expectations for more stimulus this year

On the latest edition of Market Week in Review, Senior Investment Strategist and Head of Canadian Strategy, BeiChen Lin, discussed the recent interest rate announcement from the Reserve Bank of Australia (RBA). He also assessed how the latest Canadian inflation data could impact upcoming monetary policy decisions from the Bank of Canada (BoC), and concluded by examining the recent performance of Chinese equities.

RBA cuts rates as price pressures moderate

Lin began with a look at the RBA’s Feb. 18 decision to lower its benchmark lending rate by 25 basis points (bps) to 4.1%. The rate cut was the Australian central bank’s first of the cycle, he said, lagging most other major central banks, which began lowering rates last year. However, despite the later start, Lin said he expects the RBA to still be able to gradually take rates to a more neutral setting as inflation continues to ease.

Following the central bank’s announcement, the Australian Bureau of Statistics released two additional data points that were supportive of the RBA’s decision, Lin noted. The first was a report showing that wage pressures during the fourth quarter of 2024 rose at a softer-than-expected pace, he said. “This was a positive development that suggests that over time, Australian inflation should be able to continue moderating,” Lin remarked.

The second data point was the country’s unemployment rate, which rose slightly to 4.1% in January, he said. Characterizing the number as generally in line with consensus expectations, Lin said it suggests that the Australian labor market is softening a bit—but importantly, not at an alarming rate.

Canadian inflation numbers surprise to the upside

Turning to Canada, Lin said that both consumer and producer prices came in somewhat hotter than expected during January. However, he stressed the importance of looking at the country’s overall inflation rate, which currently sits at 2.5% if the BoC’s preferred measure of core inflation is used.

“This number is already within the central bank’s 1%-3% target range—and it’s down significantly from its 2022 peak. In addition, if the BoC’s old measure of core inflation is applied, the annual inflation rate is even lower, at 2.1%,” Lin explained. Amid this backdrop, he said the central bank is likely to be a little more tolerant of a temporary setback in inflation than it would be if the inflation rate were higher.

Lin said that as long as inflation continues to moderate, the BoC should be able to eventually lower interest rates to a neutral setting of 2.75%. Noting that the risks of an economic slowdown in Canada are a little more elevated than in the U.S., he said the BoC could wind up cutting rates even more meaningfully if the country were to tip into a recession. Even if Canada avoids a recession, Lin said it’s still possible the central bank could drop rates below 2.7% later this year due to the country’s weak jobs market and sluggish economic growth.

Noting that markets are pricing in less than a 50% chance of a rate cut at the BoC’s next policy meeting in March, Lin said he thinks the outcome could go either way. “I believe it’s quite possible that the BoC will still cut rates next month—but the decision will probably hinge on what the next labor-market report reveals,” he stated.

What’s helping fuel the rally in Chinese stocks?

Lin wrapped up by unpacking the recent strength in Chinese equities, which he said can be partially attributed to investor expectations for more stimulus this year.

“China will be holding its National People’s Congress meeting in March—and during this meeting, the government is likely to announce its GDP (gross domestic product) growth target for 2025. We think that if a target of around 4.5%-5.0% is announced, more meaningful stimulus will probably be needed,” he explained.

Liin said that because of the recent rally, Chinese equities now appear somewhat overbought, relative to the broader equity market. That said, he noted that Chinese equity valuations still look reasonable and are more attractive than their U.S. counterparts. “With this in mind, we continue to think that having diversified portfolio exposure—including an allocation to China—could be important for investors,” he concluded.

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