In the first half of the year, consumer prices in Australia showed an upward trend, while inflation continued to remain well above the Reserve Bank of Australia's (RBA) target range.
The RBA raised interest rates 13 times between May 2022 and November 2023, bringing it to 4.35%. However, RBA opted to increase rates less aggressively than its peers, betting that it could reduce inflation without harming the labor market. As a result, the decline in inflation has been slow.
The fact that core inflation, closely watched by the RBA, remained above 4% in the first half of the year has sparked debates about whether monetary policy is tight enough to weaken price pressures.
Indeed, the messages conveyed after the RBA's August monetary policy meeting indicated that there would be no rate cuts this year, and they remain open to further hikes due to the upside risks to inflation.
However, the markets struggle to be convinced by the RBA's hawkish messages. Following the latest data showing that core inflation (trimmed mean) in June fell from 4.4% in the previous month to 4.1%, market expectations for further rate hikes from the RBA have dissipated, and the anticipated timing of the first rate cut has shifted from the first half of 2025 to the fourth quarter of 2024.
Market participants' bets now range between unchanged rates or a 25 basis point rate cut. As of August 26, the probability of the RBA leaving rates unchanged at its next meeting (September 24) is priced at 70%, while the likelihood of a rate cut to 4.10% is seen at 30%.
On the other hand, economists point out that the slowdown in inflation, along with the rise in the unemployment rate and the deceleration in economic growth, could lead the RBA to implement a rate cut later this year, most likely in November or December, after reviewing the third-quarter CPI data.
According to the statements of the August monetary policy meeting, the RBA revised its forecast for annual headline inflation downwards from 3.8% to 3%, while it predicts that core inflation will reach 3.5% by the end of the year.
Additionally, the unemployment rate forecast for the end of this year was revised upwards from 4.2% to 4.3%, with an expectation that it will reach 4.4% by the end of next year. While some economists note that an unemployment rate of 4.4% is still low by historical standards, others emphasize the uncertainty surrounding how much tolerance the RBA will have for rising unemployment.
Furthermore, the recent move by Australia's three major retail banks to cut fixed-rate mortgage loans by up to 80 basis points was interpreted as a reflection of expectations that the RBA might cut rates by the end of the year. Lastly, the growing belief that the RBA will not act against the global trend as central banks enter an easing mode is also softening the impact of the RBA's hawkish messages.
Markets Focus on CPI Trends Amid Ongoing Speculation on RBA Rate Cuts
As discussions on the RBA's monetary policy path continue, attention is now focused on today’s monthly Consumer Price Index (CPI) data. The monthly headline CPI figures are expected to continue easing, following the decline to 3.8% in June, with a forecasted increase of 3.4% in July.
If the data indicates continued easing in price pressures, it could support market expectations for a rate cut. The rise in rate cut expectations may deepen the decline in Australian Treasury bond yields and could limit the Australian dollar's gains against the US dollar. In the opposite scenario, the effectiveness of the RBA's hawkish messages will likely strengthen.