AUSTRALIA’S central bank may have no choice but to resume raising interest rates this year if inflation fails to slow, according to money markets, setting it up as a potential outlier to a post-pandemic global tightening cycle that has all but ended.
Aside from Japan, which only began hiking this year, Australia is the only developed economy where money markets are still pricing some chance of a rate increase. The reasons include a cash rate of 4.35 per cent that’s lower than peers and inflation that’s proving stickier than the Reserve Bank of Australia (RBA) had anticipated.
“The RBA has little tolerance for any upside surprise in the inflation data,” said Su-Lin Ong, chief economist for Australia at Royal Bank of Canada. If second-quarter data confirms the disinflation trend has stalled, the RBA “have to be forced to hike, reluctant all the way”, she said.
Australia’s inflation came in hotter than expected in the first quarter and the April print last week showed a quickening of price gains. Overnight-indexed swaps are pricing a one-in-five chance of a hike by the RBA at its Aug 6 meeting – ahead of second-quarter inflation data due on Jul 31.
The RBA targets inflation of 2 to 3 per cent and the April data came in at 3.6 per cent.
After the April data, economists at ING Groep pushed out their call for a first RBA cut to 2025 from 2024, warning that “we are only one bad inflation report from amending our forecasts to include some additional tightening”.
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Another strong quarterly price print would worry the inflation-targeting central bank. The board resumed rate-hike discussions at its May meeting and has said it is not ruling anything in or out. This comes at a time when the broader economy is slowing, unemployment is ticking higher and consumer spending is weak.
The RBA has kept the policy rate steady for six months and remains in data-dependent mode, with its forecast showing that inflation will only return to target next year. Governor Michele Bullock has expressed a willingness to be patient as she seeks to slow inflation without choking off economic growth.
This is why most economists and markets still anticipate that the RBA will keep rates higher for longer, rather than hike again. The central bank itself has sent a strong signal that the bar to a further tightening is high following 13 increases between May 2022 and November 2023 that took borrowing costs to a 12-year high.
Former RBA assistant governor Luci Ellis said the risk of stagflation – flat gross domestic product growth and still-elevated inflation – could lead to a later start to easing. That’s a more “plausible, and pessimistic scenario”, said Ellis, who is now chief economist at Westpac Banking.
The rate-setting board next meets on Jun 18 when no change is expected. Ahead of that, policymakers will get a chance to assess other data: a closely-watched minimum wage decision on Monday, first-quarter GDP on Wednesday and another round of labour market data the week after.
On Friday, markets will hear for the first time from new deputy governor Andrew Hauser – formerly from the Bank of England – as he speaks on Australia’s economic outlook at a conference in Sydney.
If the RBA misses its second-quarter core inflation forecast “there may well be a policy rate hike”, said Stephen Miller, an investment strategist at GSFM in Sydney.
“The reality is that those of us who were not long ago anticipating a policy rate reduction this year may have to cool their heels for a while yet,” he said. “So might a government that heretofore had been anxiously anticipating a pre-election policy rate decline.”
Australia is due to hold an election by May 2025. BLOOMBERG
