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Australia's Q2 inflation may accelerate, increasing pressure on the Reserve Bank of Australia to raise interest rates

2024-07-29

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Australia will release its second-quarter consumer price index on Wednesday. Economists expect the headline CPI to rise 3.8% year-on-year, up from 3.6% in the previous quarter. The key core measure - average inflation that smooths price fluctuations - is expected to remain at 4%. That's above the RBA's latest forecast of 3.8%, suggesting limited progress in controlling prices.

"If inflation is around 4% and they're not raising rates, that's going to start to seriously damage their credibility in fighting inflation," said Stephen Miller, investment strategist at GSFM. "That could mean that yields on longer-dated Australian bonds underperform, certainly against U.S. bonds."

The RBA has raised rates less than other central banks around the world as it seeks to preserve job growth while worrying about the ability of heavily indebted households to cope. Stubborn inflation suggests the RBA may not be able to achieve its goal of restoring price growth to 2%-3% by the end of next year, which could require further rate hikes and risk tipping the weak economy into recession.

Ahead of the price report, Australian job growth was higher than expected, retail sales were strong, while business survey indicators remained resilient. In May, some price indexes rose more than expected for the third month in a row, raising questions about whether policy is "restrictive enough".

The Reserve Bank of Australia pledged to remain "vigilant" to upside risks to prices, and the rate-setting committee considered a rate hike in June but ultimately decided to keep rates unchanged at 4.35%. Although the odds of a rate hike have decreased from earlier this month, money markets still see a one-in-five chance of a rate hike at the RBA's Aug. 5-6 meeting.

"Inflation remains high relative to the rest of the world," said Diana Mousina, deputy chief economist at AMP. She believes a month-on-month CPI increase of more than 1% "could lead the RBA to raise rates" because it would be further away from its inflation target.

Economists expect Australian CPI to rise 1% month-on-month in the second quarter.

Australia's cautious policy puts it near the tail end of the global cycle, as the RBA is discussing a rate hike while some central banks are already easing monetary policy. The Bank of Japan is an exception, with markets predicting a rate hike on Wednesday.

In contrast, the Bank of Canada has cut rates in a row and the European Central Bank has also cut rates. China, Australia's largest trading partner, has been reducing borrowing costs.

The Fed could lay the groundwork for a policy shift in September at its meeting this week. A particularly dovish Fed could warn the RBA against raising rates.

“With China easing and the risk of imminent easing from the Fed and other developed market central banks, the RBA is well aware that monetary policy needs to be fine-tuned when the trend turns to the downside,” said Prashant Newnaha, senior rates strategist at TD Securities in Singapore.

Newnaha noted the recent sell-off in the Australian dollar, saying “CPI is unlikely to rescue the AUD from its losses.”

The Australian dollar has fallen nearly 2% against the U.S. dollar this month, making it one of the worst performing major developed market currencies, as falling commodity prices and concerns about the economy have hit risk sentiment. It’s a reversal for the Australian dollar, which had previously outperformed on bets on RBA rate hikes.

The above information is provided by special analysts and is for reference only. CM Trade does not guarantee the accuracy, timeliness and completeness of the information content, so you should not place too much reliance on the information provided. CM Trade is not a company that provides financial advice, and only provides services of the nature of execution of orders. Readers are advised to seek relevant investment advice on their own. Please see our full disclaimer.

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Australia's Q2 inflation may accelerate, increasing pressure on the Reserve Bank of Australia to raise interest rates

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