RBA Preview: Another 25 bps Rate Hike Amid Robust Recovery

After taking the lead in rate hike in developed economies, the RBA will raise its policy rate, by 25 bps again, to 3.5% in November. Although current interest rate remains well-below RBA's normal level of around 5%, we believe the central bank will be patient and only tighten gradually.

Economic recovery has been robust since last meeting. Unemployment rate surprisingly dropped to 5.7% in September while consumer sentiment surged to 121.4 in October, the highest level since July 2007. Inflation for the third quarter was firmed than consensus forecasts. Headline CPI rose +1% qoq in 3Q09 as driven by higher fuel and electricity prices. Core CPI rose +0.8% qoq while non-tradable inflation expanded by a strong +1.5% during the quarter.

Robust economic data justify another rate hike. However, the RBA may not want tighten too much for the moment as a 50 bps move may shake market confidence and downside risks to growth remains as stimulus measures fade out gradually. Policymakers stated in the Board minutes that 'the was still possibility that the recent strength in the domestic economy had been largely due to the greater-than-expected impact of the fiscal stimulus, which left open the attendant risk that activity might slow as that stimulus faded'.

The RBA will publish its November SMP on November. Both economic growth and inflation outlook will likely be upgraded. We anticipate the central bank to revise up its GDP growth to +3% (August forecast: 2.25%) for 2010 and +4% (August forecast: 3.75%) for 2011. For inflation, headline CPI will be upgraded to 2.25% and 2.5% in 2010 and 2011 respectively. In August, RBA had projected inflation of 2% in both 2010 and 2011.