Australia – RBA hikes interest rate to three-year high

After raising its cash rate by 25bps in May 2022 and 50bps in June, the Reserve Bank of Australia (RBA) continued to roll back its accommodative policy by lifting the key rate by another 50bps during the recent July meeting.

The cash rate is now at 1.35%, the highest we have seen since 2019. The back-to-back rate hike move was in line with market expectation to cool inflation that is standing at 5.1% y/y for the first quarter of 2022, the highest reading since early 2020.

The elevated inflation reading underpins soaring fuel prices induced by the war in Eastern Europe and disrupted the global supply chain network.

The central bank also guided for further rate hikes over the coming months despite the possibility of tipping the economy into a recession.

To recap, to reverse the adverse effects of Covid-19, the RBA has cut the borrowing rate for 18 months consecutively to the near-zero level of 0.10%.

Post-pandemic, the Australian economy recovered remarkably with the latest reading in 1Q22 at 3.1% y/y while being supported by the downtrend in the unemployment rate that recently hit a five-decade low of 3.9%, pent-up demand induced by the extra savings of A$$260 billion during the pandemic lockdown, and a strong export position.

With the Chinese government stimulating its economy after being hit by the stringent pandemic lockdown, it could reignite China’s demand towards Australia’s iron ore.

Against this backdrop and red-hot inflation combined with growing wages, we expect the RBA to stick to its normalisation path. We foresee another 1–2 rate hikes, much depends on data.

It appears to us that the RBA is prepared to risk some economic harm to achieve its inflation objective. We now believe there is a risk of recession in 1Q or 2Q of 2023. Should that happen, we can expect rate cuts in the second half of 2023.

Source: AmInvest Research - 6 Jul 2022