After a nasty slide over the past two weeks, the Australian dollar has rebounded sharply on Tuesday. AUD/USD is trading at 0.7111 in the European session, up 0.84% on the day.
RBA surprises with 0.25% hike
As expected, the RBA raised rates for the first time since November 2011. The 0.25% hike was larger than expected, as the markets had priced in a 0.15% increase. A headline I read this morning exclaimed, ‘RBA shocks market!’ This sounded to me like hyperbole, as the difference between 0.15% and 0.25% is not earth-shattering. Still, I can’t argue with the fact that the Australian dollar has responded with sharp gains, as investors are clearly pleased by the RBA move.
There had been talk that the RBA might stay on the sidelines until June, not wishing to make any moves in the midst of the Australian election campaign. However, spiralling inflation has become a major problem and the central bank clearly did not want to wait another month, given the risk that inflation would accelerate even higher. The RBA will likely continue to tighten policy until inflation begins to ease, although at a slower pace than the aggressive Fed rate-tightening cycle.
The market’s attention will now shift to the Federal Reserve later on Wednesday. The Fed is almost certain to hike rates by 0.50%, although there have been predictions of a super-supersize increase of 0.75%. The June and July meetings will likely see further hikes, as the Fed has pledged to wrestle down inflation. The markets are uneasy that the Fed’s aggressive stance could send the US economy into a recession, which has led to sharp volatility on the stock markets.
Equally as important as the rate hikes, the FOMC is expected to announce a reduction in bonds holdings, and the pace of the balance sheet normalization will be closely watched. If the Fed delivers a larger cap on holdings than expected, this would be bullish for the US dollar.
AUD/USD Technical
- There is support at 0.6992 and 0.6923
- AUD/USD has resistance at 0.7125 and 0.7194
