Australian dollar (6A) futures
Fundamental Analysis

RBA to Raise Rates by a Modest 25bps amid Soaring Inflation

  • Economists expect the RBA to raise rates by 25bps on Tuesday.
  • The unexpected rise in Australia’s inflation could see the RBA reconsider its smaller hikes.
  • The RBA might be forced to raise rates by 50bps to try and keep up with the aggressive Fed.

Australian dollar (6A) futures prices have been falling ahead of Tuesday’s Reserve Bank of Australia (RBA) meeting. Amid the highest inflation in three decades, the Reserve Bank of Australia will increase interest rates by a relatively moderate 25 basis points on Tuesday and is expected to do so again in December, according to a Reuters poll.

This puts the RBA, which began its rate-hiking campaign unusually late and with four consecutive 50 bps, out of sync with its international counterparts.

Early this month, policymakers stunned markets and economists with a modest 25 bps increase, claiming that rates had already increased significantly. However, data released on Wednesday showing a startling increase in Australian inflation to a 32-year high implies the RBA has fallen behind schedule. It could mean an embarrassing U-turn for Governor Philip Lowe.

Australia’s inflation (Source: Refinitiv Datastream)
Australia’s inflation (Source: Refinitiv Datastream)

“In these circumstances, the RBA will need to move monetary policy into a more restrictive territory to ensure inflation returns to target,” noted Alan Oster, the group’s chief economist at NAB.

He added that although the board would probably discuss the potential of a 50 bps hike given the severity of inflation, “we consider a 25 bp hike as being slightly more probable given recent communications.”

One reason for the smaller hikes is the perilous status of the Australian property market, which is anticipated to cool rapidly this year and the following year. Rising mortgage rates add to borrowers’ problems of A$2 trillion ($1.3 trillion) in home loans.

However, some analysts believe the RBA may have little choice but to return to 50 bps next week, given that the U.S. Federal Reserve is expected to boost interest rates by 75 basis points for the fourth time in a row on November 2.

“It is hard to see how the RBA can ignore such an outsized miss on inflation,” noted Robert Carnell, regional head of Asia-Pacific research for ING. “This…adds pressure on the RBA to revert to a 50 bp tightening pace.”

The Australian dollar futures’ response has been somewhat muted thus far. Still, a quick return to a hawkish policy outlook could offer much-needed support to a currency battered by concerns about China’s economic growth and the anxiety surrounding the world financial markets.