Australia and New Zealand - Weekly Prospects

Australia and New Zealand - Weekly Prospects

(See attached file: AusNZ_weekly_200807.pdf)

* In last week's commentary, the RBA indicated that the tightening bias remains in place, even after accounting for the likely impact of the intensification of financial market turbulence. We retain our call for a December tightening, even with the Fed now expected to ease, but this is conditional on markets stabilising and the spillover to the real economy being contained. One factor that could keep the RBA sidelined later this year, though, is the disproportionate rise in mortgage rates since the RBA's rate hike, which is doing some of the heavy lifting for the RBA. It is too early to tell, however, where market rates will settle relative to cash. That said, last week's sharp drop in the AUD means the RBA could have an even bigger inflation problem. After last week's frenzied activity, this week looks sleepy, with only the leading index and vehicle sales to trouble the scorers.

* In what will be a quiet week for data, second tier releases on credit card spending and July's trade balance nevertheless will provide valuable insight on the underlying forces brewing in New Zealand. Last week's 2Q retail trade report posted its weakest outcome since 3Q97, ahead of the last recession. The report prompted a slight downgrade to the 2Q GDP forecast from 0.5%q/q to 0.4%. Consumption growth over 2Q is likely to have contracted 0.3%q/q. RBNZ officials tried to calm frayed nerves last week by stating there is enough cash in the system and that markets are functioning adequately.

* We have lowered the US growth forecast and now expect the Fed to ease in September. Friday's FOMC statement represents an important shift in central bankers' response to recent market developments. The previous week, the Fed maintained a sanguine view of the outlook, stating, "the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected." This has been replaced by the message, "[the Committee] judges that the downside risks to growth have increased appreciably. The Committee is monitoring the situation and is prepared to act as needed to mitigate the adverse effects on the economy arising from the disruptions in financial markets." By shifting its bias and suggesting that there will be adverse effects, it is signalling a change to its growth forecast that will prompt an ease at the September 18 FOMC meeting.

* The US GDP growth forecast has been revised down modestly—to 2.25%q/q, saar for the next two quarters on average—with a Fed ease and a healthy corporate sector enabling the economy to absorb much of this drag. Growth then is expected to rebound, with the Fed expected to take back rate cuts around the middle of next year. We have pushed out the expected tightenings by the Bank of Japan and the ECB to September and December, respectively, and decided that the Bank of England will leave the cash rate unchanged throughout 2008. We now expect the Bank of Canada to ease policy in October but, in line with the Fed, to start taking back this ease in 2008.

ENDS

(See attached file: AusNZ_weekly_200807.pdf)

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