Rapid Response - RBA raises as anticipated, but with a slightly less hawkish tone
Today, the Reserve Bank of Australia raised the cash rate by +0.25% to 4.85%, its highest level since 2008. The hike was widely expected, but it was a split 6-3 decision. The Board also dropped its explicit pledge to raise rates "further if needed", even though the Statement on Monetary Policy (SMP) revised the inflation outlook materially higher. The RBA may have reached the cycle peak, but further rate increases can't be ruled out.
The Board has decided, as expected, to raise the cash rate target by +0.25% to an 18-year high of 4.85%.
The governor's statement said, "Inflation is now expected to remain above 3 per cent for the coming year and there is an increasing risk that higher inflation expectations will become embedded.
The Board is conscious of the period in which inflation has been too high. Given the revised inflation outlook and the continuing upside risks, the Board judged that a further tightening in financial conditions is warranted to support the return of inflation to target."
Today’s policy decision was by majority: 6 members voted to increase the cash rate and 3 members voted to leave the cash rate target unchanged at 4.60%. At the press conference, the governor confirmed that those voting to hold preferred to gather more data.
September's decision was unanimous, and the governor's statement included the line "including increasing the cash rate target further if needed". That line was removed this month.
Echoing recent staff comments, the statement pointed to higher fuel and commodity prices from the Middle East conflict, domestic capacity pressures judged tighter than earlier thought, AI-driven price pressures, and weak productivity growth.
The assumed Brent crude oil price for the December quarter is US$109.5/bbl, compared with US$81.2/bbl assumed in August (around +35%). It is assumed to stay around +11% higher than the August path by end-2028.
Partly on the back of the higher oil price and partly due to greater domestic capacity pressures, inflation is also expected to stay higher for longer than previously envisaged, only returning to the midpoint of the target range in 2028. The governor described next year's CPI result as already "pretty much baked in".
S&P/ASX200 8,887 +0.3%, AUDUSD 0.6979 --0.3%, Aus 2yr 4.82% -7bps, Aus 10yr 5.08% -5bps
Fin-X Capital Group View
The hike itself was no surprise, but the 3 votes to hold were. The removal of the tightening bias in the statement was also notable, and the staff forecasts suggest that a cash rate peaking around 4.9% is deemed to be enough to bring trimmed mean inflation back to 2.5% by mid-2028.
Today's rate increase puts the RBA higher than the assumed rate path in the forecasts. The Board judges also that financial conditions are restrictive, but is unsure how restrictive.
The reasons for the increase matter for how long rates stay at 4.85%. The RBA has upgraded its view of the economy's tightness: a larger positive output gap, unit labour costs growing +3.5%, and inflation expectations drifting higher. That is a domestic structural story, not just an oil story.
The RBA also raised its estimate of the non-accelerating inflation rate of unemployment (NAIRU) to around 4.75%, implying some comfort with the higher unemployment forecast.
Growth is now expected to be stronger this year and next, before a deeper slowdown in 2028. But this could be softer given that rates are slightly higher than assumed in the projections.
Our base case is now that rates will remain on hold at 4.85% through most of 2027. But a further increase to 5.10% can't be ruled out. The governor confirmed that it is possible that the peak has been reached today, and possible that at least one further increase will be necessary.
The market is pricing a roughly 30% probability of one more increase in the first half of next year. For another increase, an upside surprise in quarterly CPI and another round of higher inflation forecasts would likely be required, which makes a February increase more likely than December. However, the Board has also become more sensitive to any signs that inflation expectations are firming above the target range.
The SMP's downside scenario shows that even a sharper slowdown brings inflation back to target only one quarter earlier. In other words, a weaker economy is not enough by itself to bring rate relief. So, cuts appear unlikely before late 2027.
Disclaimer
The contents of this communication are prepared by Fin-X Capital Group Pty Ltd (A.C.N. 627 650 293; AFSL 520526 trading as Fin-X Capital). The information contained in this communication is general in nature and does not take into consideration any investors personal objectives, goals, needs and financial situation. You should not rely on the information contained in this document to make any investment decisions without first consulting an investment professional such as your financial adviser. Any unauthorised use of this document is prohibited. This document (including any attachments) is intended only for the addressee, it may contain information of a privileged and confidential nature. If you are not the addressee of this communication, you must not copy, reproduce, disseminate or use this email and its contents. If this communication has been received in error by you, please inform us immediately and securely delete. Sharing, transmitting, copying, disseminating all or part of the contents of this document may result in a breach of the Federal Privacy Legislation and or copyright and trademark infringement of Fin-X Capital Group Pty Ltd and its related entities.
