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Selling pressure on global bond markets eased a bit yesterday. Even so, the relieve, if any, was small compared to the sharp rise especially of long-term yields at the end of last week. Headlines throughout the day on the developments in the Middle-East conflict were mixed at best and didn’t bring clear guidance on a roadmap to a solution around Hormuz. Oil also showed some nervous intraday swings. At the end of the day, Brent closed off the intraday highs (near $110/b), after US President Trump said he was asked by regional allies to put off a new strike on Iran as they saw chances reaching a deal soon. (US) yields to some extent still moved in lockstep with the intraday pattern of oil. In a limited steepening move, the 2-y yield fell a modest 2.5 bps. However, even in a daily perspective there was no relieve at the long end of the curve (30-y +0.7 bps, close at 5.12% only a whisker away from the 2023 top of 5.176%). A similar (or even worse) pattern was visible for German and Japanese LT yields. German yields eased between 2.8 bps (2-y) and 0.5 bps (30-y), but the 30-y yield at 3.7% intraday still touched the highest level since mid-2011. The 30-y Japanese yield at 4.15% even trades at the highest level since the launch of the tenor. The correction in UK bond yields was a bit more outspoken after Friday’s sell-off with yields retracing between 7 and 8.5 bps across the curve. A spokesman of potential UK PM contender Andy Burnham said that he didn’t intend to change the government’s self-imposed borrowing limits/framework as currently applied by UK Chancelor Reeves. However, it’s far from sure whether this will be enough to keep calm at UK bond markets when the leadership contest continues over the next weeks. It helped to take some pressure off sterling with EUR/GBP easing from the 0.873 area to close at 0.867. Equities at least were not hugely inspired by the “pause” in the bond market. US indices changed between +0.32% (Dow) and -0.51% (Nasdaq). The Eurostoxx 50 regained a modest 0.36%. Question remains whether/to what extent high risk premia/real yields at the long end of the curve might become a factor for other markets of risk assets (US 10-y real yield at 2.10% is nearing the end March top). In FX markets, DXY tested the end of April top near 99.34, but closed at 99.2. EUR/USD rebounded from 1.162 to 1.1655.

Yesterday’s trends basically continue this morning. Japanese (LT) yields remain upwardly oriented (30-y +6.3 bps). The US 30-y yield also holds near 5.15%. This apparently weighs on equities (Nikkei -0.56%, US equity futures losing 0.3%-0.6%). Eco data today probably are again second tier with only US weekly ADP data scheduled for release. We also keep an eye at remarks from ECB Chief Economist Philip Lane in a panel discussion in Frankfurt. At the time of finishing this report, UK labour market data came in mixed to tentatively softer than expected. The unemployment rate of the 3-month period to March rose from 4.9% to 5%. Monthly payrolled employees in April declined a substantial 100k (from -28k in March). Sterling holds little changed near EUR/GBP 0.868 in a first reaction.

News & Views

Fitch Ratings said the default rate for US private credit loans edged higher from 5.7% in March to 6% last month – the highest since the agency began tracking in August 2024. 10 defaults were recorded in April, the bulk of which by issuers in the industrial and manufacturing sector (accounting for four events). Of those 10 events, six were new unique defaulters while four were serial defaulters. Seven of the 10 defaults involved maturity extensions while the remaining three were offered to pay interest in additional debt in lieu of cash interest. In the twelve month rolling period, Fitch recorded 99 default events of which 81 for the first time, also the highest ever.

Japanese Q1 growth marginally topped expectations. The 0.5% quarterly pace (2.1% annualized, quickest since September 2024) compares with the 0.4% expected but follows a downwardly revised 0.2% in Q4 of last year. Private consumption grew 0.3% and carried 0.2% of total growth (ie. the contribution). Fixed capital formation accounted for 0.1% of quarterly growth. Exports rose 1.7% and imports only by 0.5%, resulting in a positive net export contribution of 0.3%. Japanese assets were little moved by what is considered an outdated report which does not capture the full impact of the Iran war. But it could persuade doubting Japanese monetary policymakers to hike rates to counter the inflationary impact in an economy that went into the conflict in solid shape. USD/JPY is trading a tad stronger in the 159 area. Japanese yields continue their ascent towards multidecade/record highs across the curve. The long end underperforms with rates rising about 6 bp

UK labor market data showed further signs of softening, with payroll employment falling again in April while the unemployment rate edged higher in the three months to March. Payrolled employment declined by -100k or -0.3% mom in April, extending the annual drop to -210k or -0.7% yoy. Meanwhile, the unemployment rate rose from 4.9% to 5.0% in the three months to March, slightly above expectations of 4.9%.

Wage growth data presented a more mixed picture. Median monthly pay growth remained elevated at 4.9% yoy in April, unchanged from the previous month. In the three months to March, average earnings excluding bonuses slowed from 3.6% yoy to 3.4% yoy, matching expectations and suggesting some easing in underlying wage pressures. However, average earnings including bonuses accelerated from 3.9% yoy to 4.1% yoy, beating forecasts of 3.8% yoy.

The figures reinforce the difficult balancing act facing the Bank of England. While softer payrolls and rising unemployment point to gradual cooling in labor market conditions, wage growth remains firm enough to keep policymakers cautious about inflation risks, especially with higher energy costs continuing to pressure the broader economy.

Full UK labor market overview release here.

In focus today

Focus will continue to be on developments in the Middle East and the bond market rout that has caused a sell-off in risk assets.

In the UK a fresh labour market report will be published. Employment is expected to have fallen again in March, although the earlier, concerning rise in unemployment has since been revised lower.

Economic and market news

What happened overnight

In Japan, Q1 real GDP grew at an annualised 2.1%, equivalent to 0.5% q/q, outpacing the consensus forecast of 1.7% and the revised 1.3% recorded in the previous quarter. Growth was broadly based, with both private consumption and capital expenditure rising 0.3%, while net external demand contributed 0.3pp, underlining the role of solid exports. The figures suggest the economy was on a relatively firm footing before the Iran war and its associated energy shock, giving it some buffer, but momentum is expected to slow in the second quarter as the full impact on businesses and households becomes clearer.

What happened yesterday

In the US-Iran war, Tehran has submitted a new response to the latest US proposal via Pakistan, though mediators warn the ceasefire is "on life support". Brent Crude slipped around 2% to USD109.8/bbl in early Asian trading after President Trump said he had paused a planned large‑scale strike on Iran to allow time for negotiations aimed at ending the war in the Middle East. Yet Trump insists the US remains ready to act if talks fail. At the same time, Washington extended a sanctions waiver on Russian seaborne crude, helping stabilise physical supply, while record US reserve draws have pushed inventories to two‑year lows, leaving the market highly sensitive to any renewed escalation.

In the bond market, investors are increasingly pricing in a lasting inflation shock from the Iran war, triggering a global bond market rout, with G7 10-year yields surging towards 4% and 30-year rates to about 4.6%, and US Treasuries and JGBs at multi-year highs. Yesterday, however, the sell-off abated as lower oil prices helped temper inflation concerns, prompting a retracement in yields and improved risk sentiment, even though markets still see a durable agreement as distant.

In the euro area, European Commissioner Valdis Dombrovskis flags a "stagflationary shock" from the war in Iran in an interview with CNBC, noting that the forthcoming spring report will lower growth forecasts and raise inflation expectations. Persistent disruption in the Strait of Hormuz and oil above USD100/bbl are key drivers. His comments reinforce expectations of softer activity, stickier inflation and limited policy space to cushion the shock.

Equities: Equity markets moved lower yesterday, driven by US tech underperformance and a clear defensive rotation. What is important, however, is that this was not a classic broad-based risk-off session. Most sectors were actually higher on the day, and VIX also declined. In other words, the move was more about sector rotation out of high-flying semiconductors than a general deterioration in risk appetite.

We are seeing some of that same dynamic continue in Asia this morning. Taiwan and South Korea are notably weaker after what has been truly exceptional year to date gains, with the semiconductor complex underperforming after the pressure seen in the US yesterday.

It is also worth highlighting the turnaround we saw in Europe yesterday. Markets started the day in the red but managed to close higher, which is a constructive signal in a session otherwise dominated by pressure on the most crowded parts of the equity market. Energy was the best performing sector in both the US and Europe, as oil crept higher. Hence, this also signals Iran remains one of the biggest daily drivers for markets at the moment.

This morning, Asian markets are mixed. European futures are higher, while US futures are lower, again with tech somewhat under pressure.

FI and FX: The sell-off in global FI markets has stabilized in the last 24 hours with importantly the short-end of the USD curve even coming lower driving a slight steepening of the curve. Despite Trump's announcement that he will be holding back strikes on Iran today, Iran's updated peace proposal and the news of another US waiver on the selling of Russian oil that has already been loaded on tankers the impact on energy and hence broader markets has still been rather limited. EUR/USD retreated some of its decline from last Friday but continues to trade around 1.1650. In the Scandies both SEK and NOK have stabilized and are marginally stronger vs the EUR since Monday's opening.

The week started on a mixed note. In Europe, the retreat in European bond yields gave a certain relief to equity indices, allowing the Stoxx 600 to keep floor above the 50-DMA, while major US indices failed to maintain earlier optimism – fueled by news that Washington reportedly proposed a temporary waiver on sanctions. The US denied the report shortly after.

This morning, we’re back to square one. Yields are rising and equities are under pressure. The Japanese 10-year yield – which has become the first thing I look at in the morning – is pushing toward the 2.80% mark again. Rising oil prices fuel inflation and Bank of Japan (BoJ) rate hike expectations, justifying the rise in yields, while economic data released this morning backs a further selloff: the Japanese economy grew more than 2% annualized in Q1, consumption rose more than expected, while price pressures did not ease as pencilled in by analysts. The latter boosted hawkish BoJ expectations – the expectation that the BoJ would raise rates to tame inflationary pressures – a scenario that echoes through US yields as well.

Japanese yields matter to the entire world

Why? Because Japan is one of the largest foreign holders of US Treasuries. For years, Japanese investors such as pension funds and insurance companies bought US government bonds because yields in Japan were extremely low — often close to zero — making US bonds far more attractive in comparison.

But that changes when Japanese government bond yields rise. If the 10-year Japanese Government Bond (JGB) yield climbs toward the 1.75–1.77% range, domestic bonds start becoming attractive again for major Japanese institutions: they can earn a decent return at home without taking the currency risk, hedging costs, or overseas exposure that comes with holding US Treasuries.

That matters because if large Japanese investors start shifting even part of their money back into domestic bonds, demand for US Treasuries could weaken, potentially putting upward pressure on US yields. And we see this morning that the US 10-year yield is pushing past 4.60% — the highest in a year.

In other news, China – another major UST holder – also joined the global selloff in US Treasuries in March amid rising geopolitical tensions.

Beyond the Iran war, China has been reducing the risk of holding US Treasuries for years, replacing part of its UST reserves with gold. The latter – echoed by other central banks – is expected to maintain gold’s positive longer-term trend.

Gold caught between yields and liquidity

In the short run, however, gold remains under pressure from rising yields – higher sovereign yields increase the opportunity cost of holding non-interest-bearing gold, making the yellow metal relatively less attractive compared to fixed-income assets. I believe every tick lower is an opportunity to strengthen a long-term bullish position.

The next reverse carry trade may be more than a temporary scare

Coming back to rising Japanese yields, the latter is becoming a growing risk for global markets. As the Japanese repatriate their money back home, US Treasury yields push higher, and higher US yields echo across global yields, while higher yields weigh on equity valuations. That’s called the reverse carry trade. The last time the latter happened, in August 2024 following a BoJ rate hike, the Nikkei lost nearly 20% in a few days, while the Nasdaq – exposed to cheap yen funding – dived around 14%.

Today, and with stretched valuations, a scenario like this becomes increasingly possible, especially if the BoJ moves ahead with another rate hike. The BoJ will meet on June 16–17 and is increasingly expected to raise rates from 0.75% to 1.00% at that meeting.

And how do you recognize a reverse carry trade? The biggest tell is a violent drop in USDJPY, combined with a simultaneous drop in equities and collapsing yields, confirming a risk-off deleveraging event.

This far, because Japanese yields remained notably low — and below the important 1.75–1.77% threshold for the 10-year JGB — reverse carry-trade episodes mostly resulted in temporary bouts of deleveraging and short-lived panic across global markets. Investors eventually returned to borrowing cheap yen and chasing higher returns abroad because the yield advantage still overwhelmingly favoured foreign assets.

But as we’re moving sustainably above that threshold, and as Japan is making its way out of a two-decade-long deflationary environment – which was the reason why Japanese yields were so low in the first place – we could see something far more structural happen. The next reverse carry episode could trigger a gradual – and sustainable – reallocation of Japanese capital back home, as domestic bonds start offering sufficiently attractive returns without the currency risk and hedging costs tied to overseas investments.

And that would mean structurally less liquidity for global markets, because Japan is one of the world’s largest pools of savings. A sustained repatriation flow could reduce demand for US Treasuries and global risk assets, put upward pressure on global borrowing costs, strengthen the yen structurally, and tighten global liquidity conditions after years of abundant Japanese-funded capital supporting everything from US tech stocks to emerging markets.

Keep calm and carry on

Now, that’s the theory.

In practice, if you ask me how worried I am, I am not extremely worried about lower Japanese liquidity. I am sure the Federal Reserve (Fed) and other central banks could fill the gap with QE, repo facilities, or any other liquidity programs designed to inject money into the system.

And that’s exactly why the durable and notable rise in the 10-year JGB yield above the 1.75–1.77% threshold did not lead to the massive selloff that many expected – and warned very loudly about.

On the contrary, global liquidity kept rising on a steep upward trajectory, and a large part of that liquidity eventually found its way into global equity indices and other risk assets. Duh!

That’s why it only makes sense to stay buy the next dip, and stay invested in equities when stock-price inflation appears inevitable due to sustained liquidity injections.

One last thing about money injection. The new Fed Chair Kevin Warsh is willing to reduce the size of the Fed’s balance sheet, and balance the negative impact by lowering rates. I don’t believe for one second that he could credibly do that.

EURUSD is unfolding a corrective zigzag structure from the April 17, 2026 high. First, wave A ended at 1.1655, establishing the initial leg of the decline. Then, wave B rallied to 1.1796, as shown on the one‑hour chart. From that point onward, wave C began to progress lower, subdividing into five smaller waves. This subdivision aligns with Elliott Wave guidelines and confirms the corrective nature of the move.

Specifically, wave ((i)) concluded at 1.1722, after which wave ((ii)) rallied to 1.1788. Subsequently, the pair resumed its decline in wave ((iii)), which extended toward 1.1608. Now, wave ((iv)) is advancing as a rally. Importantly, resistance should appear in the 1.168–1.171 zone, where sellers may re‑emerge.

Moreover, as long as the pivot at 1.18 holds, rallies are likely to fail in either three or seven swings. Consequently, the bearish sequence should continue. The potential target for wave C can be projected using the Fibonacci extension of wave A. In particular, the 100%–161.8% extension range provides a reliable measurement. This calculation identifies 1.148–1.16 as the target zone. At that level, buyers are anticipated to appear. As a result, the market could attempt a new high above the April 17 peak or develop a larger three‑wave rally.

EURUSD 60-Minute Elliott Wave Chart

EURUSD Elliott Wave Video:

https://www.youtube.com/watch?v=ejfcCWMx9GU

Key Takeaways

• Rising global bond yields and growing expectations of future Federal Reserve rate hikes are increasingly threatening the AI-driven technology rally, pressuring growth-stock valuations across global equity markets.
• Geopolitical tensions escalated sharply after a drone strike targeted a UAE nuclear facility, intensifying concerns over prolonged Middle East instability, elevated oil prices, and persistent inflationary pressures.
• Despite broader macro weakness, Asian technology stocks showed resilience as Baidu posted strong AI-driven earnings growth and Samsung Electronics gained ahead of highly anticipated NVIDIA earnings.
• Chart of the day: Nasdaq 100’s medium-term uptrend damaged, potential near-term weakness is likely to persist below 29,400 key short-term resistance.

Top Macro Headlines

• UAE nuclear plant targeted in severe escalation: Geopolitical tensions spiked as a drone strike caused a fire at a nuclear power plant in the United Arab Emirates. Simultaneously, Saudi Arabia reported intercepting three hostile drones. US President Donald Trump warned that Iran must act “fast” before he backed down on fresh military strikes following appeals from Gulf allies.
• Fed rate hike talks build: Wall Street is actively positioning for a hawkish pivot. Fed funds futures are now pricing in a high probability of a 25 bps rate hike by late 2026 or January 2027, driven by persistent inflation linked to the Middle East energy shock.
• Global bond rout deepens: Long-term government bond yields are breaking out to major inflection levels globally. The buckling of global bonds is being driven by entrenched inflation fears as the Middle East conflict drags on.
• Baidu and Samsung defy broader market gloom: Asian tech showed resilience, with Baidu topping Q1 estimates with a 49% surge in core AI-driven revenue, while Samsung shares, up 3.9% on Monday, 18 May, jumped as investors look ahead to NVIDIA's blockbuster earnings release.
• China retail sales growth weakens: China's retail sales have expanded at their slowest pace since the COVID-19 pandemic, signaling severe domestic demand sluggishness that is capping broader regional equity gains.

Key Macro Themes

• US-Iran conflict extends as midterms loom: There are currently few signs that a resolution to the Iran war is coming soon. The clock is ticking not just for Iran, but also for President Trump, as financial markets react to the ongoing oil shock while the US midterm elections approach.
• The shift to active tightening: With headline April inflation running hot, the narrative has shifted away from a simple “higher for longer” pause. Stagflation risks are forcing central banks and markets to consider renewed rate hikes to kill structural energy-driven inflation.
• NVIDIA earnings as the ultimate market litmus test: Markets are now hyper-focused on NVIDIA's upcoming earnings this Wednesday, which carries astronomical expectations and raises systemic risks for a broader tech selloff if the results or guidance disappoint.

Global Market Impact: Last 24 Hours

Equities: S&P 500 and Nasdaq 100 traded lower for the second consecutive session, weighed down by elevated government bond yields and prolonged anxiety over the Iran war. Despite the broader market pressure, Asian tech showed resilience as Samsung shares jumped and Baidu topped Q1 estimates. In today’s Asia opening session, the S&P 500 and Nasdaq 100 E-mini futures extended losses to around 0.2%.

Fixed Income: A global bond rout is deepening, leading to an impending major yield breakout that is actively pressuring the stock market. The US 10-year Treasury yield zoomed past 4.50%, while Japan's 10-year JGB yield hit a record high of 2.8%.

FX: The US Dollar Index, DXY, remains structurally dominant as rate hike expectations build, eroding alternative G10 gains and pressuring emerging market currencies.

Commodities: Oil prices jumped to a two-week high following the unexpected drone attack on the UAE nuclear power plant before slipping in the closing hour of Monday’s US session to trade almost unchanged after Trump backed down on military strikes against Iran. Conversely, spot Gold slipped to a 1.5-month low, falling 1.1% to around $4,480/oz before staging a minor bounce to end the US session up 0.6% at $4,566/oz, below its 20-day and 50-day moving averages.

Asia Pacific Impact

• Tech resilience vs. macro gloom: While Baidu's strong earnings and Samsung's pre-NVIDIA bounce may provide a tailwind for regional tech, broader indices like the Hang Seng and Nikkei are struggling under the weight of higher US yields and China's sluggish retail sales. Nikkei 225 is trading almost unchanged in today’s Asian opening session, while KOSPI sees profit-taking activity, down 2.6% at the time of writing.
• Currency strains and import bans: The widening yield premium with the US and the structural oil shock continue to deplete regional FX valuations. To protect the capital account, the Indian government has initiated emergency curbs on silver imports.
• Samsung labor talks: High-stakes negotiations between Samsung Electronics management and its labor union continue, with global memory supply chains hanging in the balance.

Top 3 Economic Data/Events to Watch Today

1. Japan Q1 GDP Preliminary Release - 7.50 am SGT Impact: USD/JPY, JPY crosses, Nikkei 225
2. RBA Monetary Policy Meeting Minutes - 9.30 am SGT Impact: AUD/USD, AUD crosses, ASX 200
3. CA Core Inflation Rate (Apr) - 8.30 am SGT; consensus: 2.6% y/y, Mar: 2.5% y/y Impact: USD/CAD, CAD crosses

Chart of the Day: Nasdaq 100’s Medium-Term Uptrend Damaged

Fig. 1: US Nasdaq 100 CFD minor trend as of 19 May 2026. Source: TradingView.

The medium-term uptrend of the high-flying US Nasdaq 100 CFD, a proxy of the Nasdaq 100 E-mini futures, has been damaged as price actions broke below the former ascending channel support from the 31 March 2025 low.

In addition, the hourly RSI momentum indicator continues to flash bearish momentum conditions below the 50 level.

Watch the 29,400 key short-term pivotal resistance for a further potential slide towards 28,660 near-term support. A break below it exposes the next intermediate support at 28,460/280, also the 20-day moving average.

On the flip side, a clearance and an hourly close above 29,400 negates the bearish tone for a squeeze up to re-test the current intraday all-time high of 29,704 in the first step.

Key Highlights

• Ethereum failed to stay above $2,250 and trimmed gains.
• A bullish trend line is forming with support at $2,100 on the daily chart of ETH/USD.
• Bitcoin price declined and settled below the $80,000 pivot zone.
• XRP failed to settle above $1.480 and $1.4850.

Ethereum Technical Analysis

Ethereum attempted an upside break above $2,400 but failed. ETH started a downside correction and traded below the $2,320 support.

Looking at the daily chart, the price failed to settle above the 38.2% Fib retracement level of the downward move from the $3,400 swing high to the $1,740 swing low. It is now below $2,200 and the 100-day simple moving average (red).

On the downside, the bulls might be active near $2,120 and $2,100. There is also a bullish trend line forming with support at $2,100, below which the price could slide toward $2,020. Any more losses might call for a move toward $1,965. The main support could be $1,880.

On the upside, the bears might remain active near $2,250. The first key resistance could be near the $2,320 level. The main hurdle for bulls sits near $2,400.

A close above the $2,400 level could open doors for a larger upward movement. In the stated case, ETH could rise toward the 50% Fib retracement level of the downward move from the $3,400 swing high to the $1,740 swing low at $2,565.

Looking at Bitcoin, the price failed to continue higher, trimmed gains, and now trades below the $80,000 support zone.

Economic Releases

• US Pending Home Sales for April 2026 (YoY) - Forecast +1.3%, versus +1.5% previous.

Australian Dollar weakened broadly in the Asian session as renewed selloff in regional equities, disappointing Chinese data, and softer near-term RBA tightening expectations combined to undermine sentiment toward the currency. At the same time, elevated oil prices continued supporting Canadian Dollar, building up the case for the case of a deeper correction in AUD/CAD.

Risk sentiment deteriorated again today after the initial recovery seen following US President Donald Trump’s temporary pause on Iran escalation. Markets appear to view the move as a tactical delay rather than a lasting resolution, with geopolitical risk premium remaining elevated as investors await further developments from Washington and the Middle East.

Weak Chinese data this week added extra pressure on Aussie. China’s latest figures showed renewed weakness in domestic consumption and fixed asset investment, reinforcing concerns about slowing demand from Australia’s largest trading partner.

Meanwhile, the RBA minutes helped solidify expectations that the central bank is likely to pause in June after delivering three consecutive rate hikes this year. Policymakers acknowledged rates are now likely restrictive and suggested the latest move would give them “space to see how the Gulf conflict developed.”

While the minutes did not abandon the broader tightening bias, markets interpreted the shift as confirmation that the RBA has entered a tactical wait-and-see phase. Traders who had aggressively positioned for a fourth straight hike in June are now scaling back those expectations and shifting bets toward a possible August move instead.

Technically, AUD/CAD’s extended pullback from 0.9957 suggests a short-term top has formed. More importantly, the reversal developed just ahead of the major 0.9991 resistance level (2021 high), while daily MACD bearish divergence conditions also point to fading upside momentum. Together, the signals raise the possibility that 0.9957 may already represent a medium-term top.

Near-term focus now turns to 0.9721 support. As long as that level holds, the broader medium-term uptrend remains intact despite the current correction. However, a firm break below 0.9721 would likely confirm a deeper pullback toward 38.2% retracement of 0.8902 to 0.9957 at 0.9554, especially if global risk sentiment deteriorates further and oil prices continue strengthening the loonie.

RBA Chief Economist Sarah Hunter warned that Australia faces rising risks of entrenched inflation as higher fuel prices begin feeding through supply chains and lifting inflation expectations. Speaking at a Bloomberg event today, Hunter said the danger extends beyond just energy, warning that firms may increasingly raise prices in anticipation of sustained cost pressures.

“Cost pass-through may be stronger than assumed,” she said, adding that higher fuel prices could “lift and embed higher inflation expectations… perpetuating the inflationary shock.”

Hunter stressed that the situation is especially challenging because the oil shock is hitting an economy where inflation was already elevated before the Middle East conflict erupted. Businesses were already expecting to adjust prices upward due to domestic cost pressures, meaning the latest surge in energy costs could spread more rapidly through the economy.

“This shock has come against a backdrop of elevated capacity constraints and domestic cost pressures,” Hunter said, warning that inflation pass-through would likely be “faster and more extensive” under current conditions.

Hunter also warned that persistent rises in expectations would make it much harder for the central bank to return inflation to target because policymakers would need to suppress both demand and expectations simultaneously. “Doing so may require a more substantial slowing of economic activity, as we saw during the early 1990s recession,” she said.

Minutes from the RBA’s May meeting suggested policymakers are leaning toward a pause in June after acknowledging that interest rates are now likely in restrictive territory. The Board raised the cash rate by 25bps to 4.35% in an 8-1 vote, but members also judged that “financial conditions would probably be somewhat restrictive after this decision,” giving policymakers “space to see how the conflict in the Middle East develops and Australian households and businesses respond.”

The minutes highlighted growing concern over the stagflationary nature of the current oil shock. Members agreed that monetary policy “could not alter the near-term trajectory of inflation” because much of the recent price pressure was being driven by energy markets rather than domestic demand. At the same time, the Board acknowledged that “output growth would likely be lower than potential growth for some time,” signaling rising awareness that tighter policy and higher fuel costs are already slowing activity across the economy.

Even so, the RBA stopped short of signaling the tightening cycle was over. The Board reiterated it would “remain attentive to the data and the evolving assessment of the outlook and risks,” while emphasizing it would “do what it considers necessary” to return inflation to target and maintain full employment. The combination of restrictive policy, slowing growth, and still-elevated inflation risks suggests the RBA is now shifting into a more tactical “wait-and-see” phase rather than abandoning its broader tightening bias altogether.

Full RBA minutes here.