US economy resilience weighs on the Australian dollar

Meanwhile, US business activity improved in February as the services sector regained its footing. The S&P Global flash February composite purchasing managers index climbed 3.4 points to 50.2, the highest in eight months, reinforcing the view of a resilient economy after robust data on retail sales, the labour market and manufacturing suggested solid momentum at the start of the year.

The reports indicate that monetary tightening is not yet bearing down on broader economic activity, and have fanned fears that the Fed could keep its interest rate tightening campaign for longer.

No rate pivot soon

The Fed has raised its policy rate by 4.5 percentage points since last March.

“Markets have been forced to reprice interest rate expectations, not just higher, but also questioning the view that once peak rates are hit, central banks will pivot quickly to cutting interest rates,” said Brian Martin, head of global economics at ANZ.

Futures imply the Fed funds rate will reach 5.36 per cent by July, and remain above 5 per cent all year.


“Economic resilience is to be lauded, but central banks are uncomfortable with current levels of aggregate expenditure and labour market demand. They need to stay hawkish and are not yet in a position to declare that interest rates are sufficiently restrictive,” Mr Martin said.

The persistent resilience in major economies, despite central banks delivering large rapid-clip interest rate increases in the past year, is largely due to long lags in the transmission of monetary policy.

Kristina Clifton, a senior economist at Commonwealth Bank, said the US, UK and New Zealand have a high share of fixed-rate mortgages, which insulate households from higher borrowing costs as rate increases are not passed through until their fixed term expires.

She said the US was the extreme case with a large share of home loans fixed for 30 years, compared with five years in the UK and just two in NZ.

“As more fixed-rate mortgages roll off and the pass-through of higher interest rates takes place, we expect demand to slow,” she said.

The lag argument also applies in Australia, even though fixed-rate mortgages only account for a third of all home lending. This is because there is a delay of around three months between the time the Reserve Bank raises the cash rate and a household having to make a higher mortgage repayment, Ms Clifton said.

Bond traders have slightly recast interest rate expectations in Australia after softer-than-expected wages data released on Wednesday.

Interbank futures imply the RBA cash rate will peak at 4.2 per cent, from 4.3 per cent earlier in the week. This means at least three more interest rate increases and the cash rate is expected to stay above 4 per cent this year. Bond markets are not anticipating rate cuts this year.