Australia is preparing to push rates to a 10-year high amid spiraling inflation

(Bloomberg) – Australia’s central bank is all but certain to raise interest rates at its first meeting of the year, with some observers pointing to the risk of a resumption of outsized moves to counter a surprising rise in inflation.

Most read by Bloomberg

Most economists and traders see the Reserve Bank lift the exchange rate by a quarter of a point on Tuesday to 3.35%, the highest level since September 2012.

Commonwealth Bank of Australia and Australia & New Zealand Banking Group Ltd. point to a small probability of a larger increase, while Bloomberg Economics sees a mini 15-point move and JPMorgan Chase & Co. expects a pause.

The RBA will weigh signs of weaker hiring and household spending against a sharp acceleration in core inflation when discussing policy settings. In December, the board considered a half-point hike and a break before deciding on a quarter-point hike, meaning it looked at alternatives.

“The RBA is in a tough spot, with released data now showing the economy is cooling down, but core inflation is uncomfortably high,” said Andrew Ticehurst, macrostrategist at Nomura Holdings Inc. in Sydney. “The risk would be for a larger move, rather than no move, in our view.”

Governor Philip Lowe has the rare advantage of watching the Federal Reserve meeting last week, when it fell to a quarter-point increase and signaled more tightening to come. This gives the governor a read on the global picture, with his British and European counterparts also hiking.

The consensus is that most central banks are approaching their terminal rates. The RBA is in a similar position to the Bank of Korea, where the economy is starting to cool but inflation is failing to follow the script.

That said, the RBA had forecast the fourth quarter CPI to be the peak. What they didn’t anticipate was the underlying strength of inflation, with the narrow average gauge rising 6.9% from 6.1% in the third quarter and higher than the RBA’s 6.5% forecast.

Lowe has repeatedly said the bank is “not on a set path” on rates and will do “what is necessary” to bring inflation back to its 2-3% target. While the bank is due to release updated quarterly estimates on Friday — and will touch on them in tomorrow’s statement — its November forecast showed inflation only returning to target in early 2025.

What Bloomberg Economics says…

“The central bank will likely suggest that further tightening is needed, but subsequent data should convince it that enough has already been done to quell inflation”

— James McIntyre, economist

To read the full note, click here

Mounting price pressures in Australia prompted the CBA’s Gareth Aird to see a “non-trivial” threat of a 40-point hike on Tuesday. ANZ’s Catherine Birch reckons that “risks are a little steeper at 50 basis points” given the inflation reading.

Nomura’s Ticehurst and Birch both expect the RBA to drive the cash rate to 3.85% by May, a more aggressive forecast than the 3.6% consensus. CBA’s Aird expects a break after the February meeting.

The RBA rate hikes have prompted a downturn in the housing market which is starting to weigh on broader activity. Retail sales fell much more than expected in December as cost-of-living pressures weighed on households. Employment growth is also slowing as business confidence falls.

Lowe argues that the RBA can bring the economy to a soft landing and the International Monetary Fund agrees that there is a good chance that will happen.

Indeed, with Australia’s main trading partner China abandoning Covid Zero and reopening, and inflation has started to cool in other major economies, the global backdrop is improving.

Australian prices remain high in part because the service industry that drives the economy is now in a strong recovery. The RBA is also grappling with a longer-than-usual transmission delay because a substantial number of home loans were secured when the cash rate was at an all-time low of 0.1%.

Economists see a pressure point in the economy when the estimated A$370 billion ($260 billion) of these loans switch to floating rates this year.

“The second quarter of 2023 is when fixed-rate mortgages start to decline aggressively,” said James Wilson, senior fund manager in Melbourne at Jamieson Coote Bonds, which oversees an estimated $4.2 billion. “The RBA will be aware of this so we may see a lull after the March meeting.”

–With assistance from Garfield Reynolds.

Most Read by Bloomberg Businessweek

©2023 Bloomberg LP

Leave a Reply

Your email address will not be published. Required fields are marked *