We revise our view of RBA policy: 25bp hikes in both March and May expected. Single hike still possible but not our base case.
The RBA is now expected to hike rates 25bp in both March and May; this is a change from our previous view of a single hike in May with further hikes as a risk only. The expected peak cash rate is now 4.35%.
The effect of higher oil prices on headline inflation is large but temporary. The RBA Monetary Policy Board will nevertheless feel compelled to react, especially given the hit to confidence and financial markets has so far not been severe.
Key information shifting our view is RBA communication revealing it has not changed its pessimistic view of growth in supply capacity following the national accounts, even though data revisions, consumption and unit labour costs paint a more benign picture. In addition, it has signalled a willingness to respond to the spike in headline inflation to head off a sustained rise in inflation expectations. This is despite expectations having remain anchored in recent years in the face of more lasting shocks.
This new information since the national accounts is in addition to the steer from the February minutes that the RBA believes that all the exchange rate appreciation this year reflects the changed domestic rates outlook. It has not allowed for any additional disinflation from the USD selloff separate from domestic rate moves. We think this puts downside risk into imported inflation relative to the RBA’s expectations, but not until at least late this year.
There are good arguments for staying on hold until May given the temporary nature of the shock and the possibility of more extreme market instability. A split vote at next week’s meeting is possible. Market participants should allow for the possibility that the RBA opts to wait until May, but it is no longer our base case. Similarly, a swift and clear resolution of the war (and fall in oil prices) or a clear and sudden loss of momentum in domestic activity would mean that the expected March hike would not be followed up in May. Again, this is not our base case, but we will keep the possibility under review.
By the end of next year, underlying inflation will be close to the 2½% target midpoint and unemployment noticeably higher. It will also be clearer that supply capacity growth is above 2% and that labour market slack is building outside the formal labour force. We therefore also shift our expectations of the necessary reversal of tight policy, to Nov and Dec 2027 and Feb 2028 (was Nov 2027 and Feb 2028).
These more frequent shifts in policy are partly a consequence of the refinement to the RBA’s mandate in the latest Statement on the Conduct of Monetary Policy. In addition, we assess that the recent changes in the composition of the Monetary Policy Board have made it more comfortable with policy activism and attempts to fine-tune policy to hit the target midpoint by a fixed horizon.
