Welcome to the Fear and Greed Business Interview. I'm Sean ail May. Yesterday afternoon, the Reserve Bank Board left the official cash rate on hold at three point eighty five percent, a surprise decision given most economists and financial markets expected a reduction of twenty five basis points. In the press conference after the announcement, Governor Michelle Bullock was at pains to explain that the decision didn't mean that the Central Bank is thinking differently about rates. Rather, it's a timing issue to run through yesterday's announcement. I'm joined by Westpac chief Economist Lucy Ellis, who of course used to be the chief economist at the Reserve Bank. Lucy, welcome back to Fear and Greed.

Welcome to the Fear and Greed Business Interview. I'm Sean ail May. Yesterday afternoon, the Reserve Bank Board left the official cash rate on hold at three point eighty five percent, a surprise decision given most economists and financial markets expected a reduction of twenty five basis points. In the press conference after the announcement, Governor Michelle Bullock was at pains to explain that the decision didn't mean that the Central Bank is thinking differently about rates. Rather, it's a timing issue to run through yesterday's announcement. I'm joined by Westpac chief Economist Lucy Ellis, who of course used to be the chief economist at the Reserve Bank. Lucy, welcome back to Fear and Greed.

Thanks very much, Shaw, and great to be here.

Thanks very much, Shaw, and great to be here.

What do you make of yesterday's decision and the press conference afterwards, well, Sean.

What do you make of yesterday's decision and the press conference afterwards, well, Sean.

The Reserve Bank Board said in its May Minutes that it wanted to approach policy in a cautious and predictable way, and it has to be said that this week's decision really does err on the side of caution rather than predictability. While they do say that they've got in the next four weeks, you know, a full quarterly CPI and the labor force numbers. It's honestly speaking, not a lot of new information, and nothing that they get in the next little while is really going to change the decision that rates are headed down. So the real question was what are you waiting for? And it does seem that the RBA has gotten itself into a bit of a view that you know, they can't look at the monthly CPI indicator as an indicator of the quarterly I mean, we have two thirds of the information now, and while it is pointed to something as shade above what they were forecasting in May, it's not a big difference. It's like there's nothing they're going to learn in the next five weeks that will change their mind. And so it's almost not a surprise that the decision was split six three, because you know, I think that was a very finely balanced judgment. And you know, the argument to wait was, well, we're waiting because we can, and we're being cautious rather than you know, policy is restrictive. You know, inflation's at target. You know, we don't need to be as restrictive as we were. And I think what was really interesting in the media conferences, they didn't really talk about the stance of policy that much. They didn't highlight that policy was restrictive. But what they did emphasize is, you know, relatively dated information about inflation that was only barely within the band. So they emphasized trim mean inflation year ended March quarter. Well, firstly, we're in July. We have two thirds of the information about June quarter and a year rended calculation. I mean, half of the information is from the middle of last year. So they're using quiet dated information to make that assessment.

The Reserve Bank Board said in its May Minutes that it wanted to approach policy in a cautious and predictable way, and it has to be said that this week's decision really does err on the side of caution rather than predictability. While they do say that they've got in the next four weeks, you know, a full quarterly CPI and the labor force numbers. It's honestly speaking, not a lot of new information, and nothing that they get in the next little while is really going to change the decision that rates are headed down. So the real question was what are you waiting for? And it does seem that the RBA has gotten itself into a bit of a view that you know, they can't look at the monthly CPI indicator as an indicator of the quarterly I mean, we have two thirds of the information now, and while it is pointed to something as shade above what they were forecasting in May, it's not a big difference. It's like there's nothing they're going to learn in the next five weeks that will change their mind. And so it's almost not a surprise that the decision was split six three, because you know, I think that was a very finely balanced judgment. And you know, the argument to wait was, well, we're waiting because we can, and we're being cautious rather than you know, policy is restrictive. You know, inflation's at target. You know, we don't need to be as restrictive as we were. And I think what was really interesting in the media conferences, they didn't really talk about the stance of policy that much. They didn't highlight that policy was restrictive. But what they did emphasize is, you know, relatively dated information about inflation that was only barely within the band. So they emphasized trim mean inflation year ended March quarter. Well, firstly, we're in July. We have two thirds of the information about June quarter and a year rended calculation. I mean, half of the information is from the middle of last year. So they're using quiet dated information to make that assessment.

Do you think there's something going on non economically inasmuch as we have a new Montrey policy setting board, it operates differently to what it did kind of four or five meetings ago. The fact that people are voting. We found out that it was a six to three split decision yesterday. All this information does it just make it harder for the Reserve Bank to kind of know what's going to come out of the meeting before it goes into the meeting, compared to let's say, twelve months ago when you were there. For example.

Do you think there's something going on non economically inasmuch as we have a new Montrey policy setting board, it operates differently to what it did kind of four or five meetings ago. The fact that people are voting. We found out that it was a six to three split decision yesterday. All this information does it just make it harder for the Reserve Bank to kind of know what's going to come out of the meeting before it goes into the meeting, compared to let's say, twelve months ago when you were there. For example.

Look, I think people need to understand that the board were not patsies. They were not a rubber stamp, and it was a misreading of the dynamics of the board and the conduct of the board to assert that they were just a rubber stamp. I mean, these are very distinguished people who are accustomed to making decisions under uncertainty. The assumption that they're just a rubber stamp was false. I mean, you know, why would the staff put up a recommendation that they didn't think they could get up. So I think this one was quite finally balanced, and I do wonder quite what was going on. I mean, I don't think it was the case that, you know, the internal people, you know, the governor, the deputy governor, and the new Secretary of Treasury were the ones who voted for a cut. I think that. I think it was three external members who voted for a cut. It's a bit hard to know that. They'll never reveal that, but that's just my sort of read of how things have played out. But the idea of oh we can wait another five weeks, will you didn't need to what? Like, it's not clear what the confirmation they needed. You know, why are they still not convinced that inflations inside the band and sustainably there, So you know, let's then look at the things that they cite as indicators why they wanted confirmation. You know, they're talking about the recovery and private sector demand growth. Well, we do well expect that, but they have been disappointed by that over recent quarters and have had to revise their consumption growth forecast, their near term consumption growth forecasts down. They're obviously concerned about inflation picking back up again, and particularly about unit labor costs and low productivity. And I thought it was interesting in the media conference after the meeting that the governor talked about a conundrum that inflation was coming down but unit later costs were high. And our view at Westpac Economics is really that what we're seeing there is a central bank that still puts a lot of weight on this sort of unit labor cost idea, on a whole of economy productivity growth concept that isn't actually that important for determining inflation. And this is something we've been talking about for about a year at Westpac Economics, but it is just something that you know, they don't come to their views about the economy lightly. They do put a lot of effort and care and modeling into their view and so they don't change their mind lightly either.

Look, I think people need to understand that the board were not patsies. They were not a rubber stamp, and it was a misreading of the dynamics of the board and the conduct of the board to assert that they were just a rubber stamp. I mean, these are very distinguished people who are accustomed to making decisions under uncertainty. The assumption that they're just a rubber stamp was false. I mean, you know, why would the staff put up a recommendation that they didn't think they could get up. So I think this one was quite finally balanced, and I do wonder quite what was going on. I mean, I don't think it was the case that, you know, the internal people, you know, the governor, the deputy governor, and the new Secretary of Treasury were the ones who voted for a cut. I think that. I think it was three external members who voted for a cut. It's a bit hard to know that. They'll never reveal that, but that's just my sort of read of how things have played out. But the idea of oh we can wait another five weeks, will you didn't need to what? Like, it's not clear what the confirmation they needed. You know, why are they still not convinced that inflations inside the band and sustainably there, So you know, let's then look at the things that they cite as indicators why they wanted confirmation. You know, they're talking about the recovery and private sector demand growth. Well, we do well expect that, but they have been disappointed by that over recent quarters and have had to revise their consumption growth forecast, their near term consumption growth forecasts down. They're obviously concerned about inflation picking back up again, and particularly about unit labor costs and low productivity. And I thought it was interesting in the media conference after the meeting that the governor talked about a conundrum that inflation was coming down but unit later costs were high. And our view at Westpac Economics is really that what we're seeing there is a central bank that still puts a lot of weight on this sort of unit labor cost idea, on a whole of economy productivity growth concept that isn't actually that important for determining inflation. And this is something we've been talking about for about a year at Westpac Economics, but it is just something that you know, they don't come to their views about the economy lightly. They do put a lot of effort and care and modeling into their view and so they don't change their mind lightly either.

Okay, stay with me, Lissy will be back in a minute. I'm talking to Lizzie Ellis, chief economist at Westpac just before the break. You're talking about unit labor costs and just westpac economics view on that Reserve banks view on that. I just want to delve into that a little bit more. So. I wasn't quite with you on what you were saying, is the reserve bank is it an outdated idea, the idea of productivity and unit labor costs.

Okay, stay with me, Lissy will be back in a minute. I'm talking to Lizzie Ellis, chief economist at Westpac just before the break. You're talking about unit labor costs and just westpac economics view on that Reserve banks view on that. I just want to delve into that a little bit more. So. I wasn't quite with you on what you were saying, is the reserve bank is it an outdated idea, the idea of productivity and unit labor costs.

I don't think it's an outdated idea, but I just think it's one that needs to be handled with care and not taken literally. So there's still this concern that inflation might not be sustained at the midpoint of their target range. They're still concerned about upside risks to inflation for two reasons. One is the labor market is tighter than what their models are telling them full employment is. And secondly, measured productivity growth is quite weak, and they're reading that as a reason to be concerned that unit labor costs could start pushing up, putting upward pressure on overall costs. And although the moment, businesses are struggling to pass this on, and the Reserve Bank acknowledges this. They just think that's sort of an upside pressure on domestic inflation. And I think our response to that would be firstly the productivity growth. And you just remember, this is just GDP divided by ours worked. It's just stuff divided by time. And the problem is that the stuff divided by time includes sectors like the mining sector, which don't have much impact on domestic inflation, but also the non market sector your health and education and childcare and disability care, where the price isn't set in a market, and so the idea that prices are a markup over costs, including labor costs, is just not relevant. And if you restrict yourself to the parts of the economy where it's a reasonable assumption or a reasonable thesis that prices are indeed some kind of markup over costs and the prices are set in a market, and this is relevant for domestic inflation, that bit of productivity is actually doing okay. And this is something we've been saying for quite some time, but it's just taking the RBA a while to sort of shift away from the kind of the thesis that they had, and then I was saying, well, you know, if productivity growth doesn't pick up, then wages growth will have to slow. It's like, well, if productivity growth doesn't pick up, well, then firms won't accept wage increases as big as they currently are. So this is sort of self correcting. We're just a lot less worried about this, and this is something we've been writing about for a while.

I don't think it's an outdated idea, but I just think it's one that needs to be handled with care and not taken literally. So there's still this concern that inflation might not be sustained at the midpoint of their target range. They're still concerned about upside risks to inflation for two reasons. One is the labor market is tighter than what their models are telling them full employment is. And secondly, measured productivity growth is quite weak, and they're reading that as a reason to be concerned that unit labor costs could start pushing up, putting upward pressure on overall costs. And although the moment, businesses are struggling to pass this on, and the Reserve Bank acknowledges this. They just think that's sort of an upside pressure on domestic inflation. And I think our response to that would be firstly the productivity growth. And you just remember, this is just GDP divided by ours worked. It's just stuff divided by time. And the problem is that the stuff divided by time includes sectors like the mining sector, which don't have much impact on domestic inflation, but also the non market sector your health and education and childcare and disability care, where the price isn't set in a market, and so the idea that prices are a markup over costs, including labor costs, is just not relevant. And if you restrict yourself to the parts of the economy where it's a reasonable assumption or a reasonable thesis that prices are indeed some kind of markup over costs and the prices are set in a market, and this is relevant for domestic inflation, that bit of productivity is actually doing okay. And this is something we've been saying for quite some time, but it's just taking the RBA a while to sort of shift away from the kind of the thesis that they had, and then I was saying, well, you know, if productivity growth doesn't pick up, then wages growth will have to slow. It's like, well, if productivity growth doesn't pick up, well, then firms won't accept wage increases as big as they currently are. So this is sort of self correcting. We're just a lot less worried about this, and this is something we've been writing about for a while.

It's nice to hear some good news on productivity back to rates. Rates will fall though at some point in the next few months. Lucy, Yeah, well.

It's nice to hear some good news on productivity back to rates. Rates will fall though at some point in the next few months. Lucy, Yeah, well.

I mean if you listening to the press conference, I mean, it really felt like, unless they get an upside surprise in the Dune Court a CPI, they're going to cut in August. I mean, you're saying, in the next five weeks, we're going to see this and we're going to have another opportunity to review. You know, I think there's a different We did say we're you know at the time that we didn't think that a rate cut in July was a shoe in, and that they were wanted to be cautious, and you know, in retrospect, I should have said it's not a shoe in, you know, maybe not change my call. I think we know we were right to say, oh, there's there's a risk that they don't go, and that the market was overpricing it. I am still surprised that in the end they decided to hold. And you know, the fact that was six' three SPLIT i think shows you just how just how finely balanced that.

I mean if you listening to the press conference, I mean, it really felt like, unless they get an upside surprise in the Dune Court a CPI, they're going to cut in August. I mean, you're saying, in the next five weeks, we're going to see this and we're going to have another opportunity to review. You know, I think there's a different We did say we're you know at the time that we didn't think that a rate cut in July was a shoe in, and that they were wanted to be cautious, and you know, in retrospect, I should have said it's not a shoe in, you know, maybe not change my call. I think we know we were right to say, oh, there's there's a risk that they don't go, and that the market was overpricing it. I am still surprised that in the end they decided to hold. And you know, the fact that was six' three SPLIT i think shows you just how just how finely balanced that.

Was so what's your call now in terms of rate cuts for the rest of the.

Was so what's your call now in terms of rate cuts for the rest of the.

Year, well we are still expecting further rate, cuts Probably. August this is now some chance that they delay. Further they're obviously just you, know remaining to be, convinced BUT i think more likely than. Not what we thought would we thought would Be, august then we Thought july is now going to Be. August and this is just tactics and. Timing and then the other point being we had, said, look we don't think that they're going to back that up back to back to, back and sure, enough so that just sort of cements the idea that if they do cut In, august they're not going to back that up with one In. September they're going to wait Till. November so it's sort of like basically their statement On monetary policy, Meetings so the quarterly meetings are the ones that are, alive and they're going to wait till they've got that full sweet information before. Deciding and so assuming we're right about it now Being august for the next, cut then you Know November February may THE smp ones cautious and, predictable with an emphasis on, cautious AND i think that also emphasizes, that you, know it's now more likely that what we'd called as being the troph which was two eighty, five is now more, likely because you, know the more cautious they, are the more likely it is that they get to the end of the year and, say, oh criche actually inflation's undershot what we thought and we need to do. More and that is the basis for the two cups that we're expecting next, year is we just think THE rba is going to get a bit caught. Out our own forecasts do see trimmed meat inflation coming into the lower end of the two to three percent target, range and so you, know we just expect that they get to the end of the year realized that their previous forecast of two point. Six as far as the eye can see wasn't what was going to play, out and so they end up, saying, oh we have to do a bit more and that's why we think there are two more cuts next year as, well so two this year too next.

Year, well we are still expecting further rate, cuts Probably. August this is now some chance that they delay. Further they're obviously just you, know remaining to be, convinced BUT i think more likely than. Not what we thought would we thought would Be, august then we Thought july is now going to Be. August and this is just tactics and. Timing and then the other point being we had, said, look we don't think that they're going to back that up back to back to, back and sure, enough so that just sort of cements the idea that if they do cut In, august they're not going to back that up with one In. September they're going to wait Till. November so it's sort of like basically their statement On monetary policy, Meetings so the quarterly meetings are the ones that are, alive and they're going to wait till they've got that full sweet information before. Deciding and so assuming we're right about it now Being august for the next, cut then you Know November February may THE smp ones cautious and, predictable with an emphasis on, cautious AND i think that also emphasizes, that you, know it's now more likely that what we'd called as being the troph which was two eighty, five is now more, likely because you, know the more cautious they, are the more likely it is that they get to the end of the year and, say, oh criche actually inflation's undershot what we thought and we need to do. More and that is the basis for the two cups that we're expecting next, year is we just think THE rba is going to get a bit caught. Out our own forecasts do see trimmed meat inflation coming into the lower end of the two to three percent target, range and so you, know we just expect that they get to the end of the year realized that their previous forecast of two point. Six as far as the eye can see wasn't what was going to play, out and so they end up, saying, oh we have to do a bit more and that's why we think there are two more cuts next year as, well so two this year too next.

Year, lucy thanks for talking To fear And. Greed thanks very.

Year, lucy thanks for talking To fear And. Greed thanks very.

Much shone always approves.

Much shone always approves.

It There's Lucy, Ellis group Chief economist At. Westpac this is The fear And Greed Business. Interview join us every morning for the full episode Of fear And greed business news you can. Use I'm Chane. Elma enjoy. Yourday

It There's Lucy, Ellis group Chief economist At. Westpac this is The fear And Greed Business. Interview join us every morning for the full episode Of fear And greed business news you can. Use I'm Chane. Elma enjoy. Yourday