Australia’s core inflation unexpectedly cooled last quarter, prompting a significant recalibration in money markets regarding the likelihood of further interest-rate increases by the Reserve Bank of Australia (RBA) this year. The softer-than-anticipated data led traders to sharply reduce their bets on another hike, triggering immediate movements in the Australian currency and government bond yields.
Inflation Miss Fuels Market Repricing
Government data released Wednesday revealed the annual trimmed mean gauge of consumer prices rose 3.6%, falling short of economists’ estimate of 3.7%. This figure, while lower than expected, remains above the RBA’s target midpoint of 2-3%, a level it has not achieved in over four years. On a quarterly basis, the underlying measure saw a 0.8% increase from three months prior, also below the 0.9% forecast.
Following the release, the Australian dollar declined as much as 0.5% to 69.38 US cents, while the yield on policy-sensitive three-year notes dropped almost 10 basis points. This immediate market reaction underscored a revised outlook on the RBA’s monetary policy trajectory.
Traders Slash Rate Hike Bets
The inflation print caused traders to dramatically wind back their wagers on another RBA rate hike this year, from more than 90% before the data release to approximately 50%. This significant shift reflects a growing belief that the central bank may pause its tightening cycle, at least for the immediate future.
However, not all analysts are convinced that the threat of further hikes has dissipated entirely. AMP Economist My Bui noted the print was “softer than we expected and it was pretty nice to see some hot services categories ticking down in June.” Despite this, Bui cautioned, “It’s still high though, so we still think there is potential for one more hike this year.”
RBA’s Persistent Inflation Challenge
The RBA had previously raised rates at its first three meetings of the year in an effort to curb persistent inflation pressures, which had resurfaced even before the global energy shock exacerbated by the US-Iran conflict. While the latest Consumer Price Index (CPI) data suggests that price pressures, though elevated, might be easing slightly, it doesn’t entirely rule out future action.
Eugenia Fabon Victorino, head of Asia strategy at Skandinaviska Enskilda Banken AB in Singapore, warned that “It is premature to price out further RBA tightening from here, in our view.” Victorino emphasized that core inflation remains “still too high” and suggested that any easing in energy prices might be temporary, especially given renewed flare-ups in Iran, which “should keep the RBA still wary of spreading price pressures.”
Governor Bullock’s Concerns Amid Global Shocks
RBA Governor Michele Bullock, responding to a question after a major speech on Tuesday, acknowledged the board’s increasing concern “the longer inflation ‘is out of target.’” She highlighted that in the most recent forecasts, core prices were only projected to fall below 3% late next year, after an extended period of elevated levels.
Bullock also expressed hope for “no more shocks,” referencing the current Middle East conflict, which followed the Ukraine war and the pandemic – all factors that have significantly contributed to global price pressures. Australia’s economy, grappling with over a decade of sluggish productivity, has become more susceptible to inflation, lowering its potential growth rate. The RBA’s task is further complicated by the volatile nature of US-Iran talks, which have led to rollercoaster fuel prices as markets react to geopolitical developments.
The cooler inflation data provides a glimmer of hope for Australian consumers and businesses, potentially signaling a reprieve from further rate increases. However, with core inflation still well above the RBA’s target band and global geopolitical risks persisting, the path forward for monetary policy remains fraught with uncertainty. The central bank’s updated quarterly forecasts, due on August 11, will be keenly watched for further guidance on its assessment of the economic outlook and the trajectory of inflation.
