The Reserve Bank of Australia has made the decision to raise the cash rate by 25 basis points, which is in line with expectations.

Following yesterday’s final RBA meeting on monetary policy for the year, interest rates are now at a decade-high 3.1%.

In a statement released after the meeting, RBA governor Philip Lowe indicated that inflation was still too high, at 6.9%, for the year to October. Strong domestic demand relative to the economy’s ability to meet this demand was a major contributing factor towards this high inflation, he added. The Central Bank governor reiterated that inflation is still expected to peak at 8% in the December quarter, hence the RBA’s tightening of interest rates.

Earlier, the markets were poised for potentially bullish news after relatively strong economic data during the week.

With lower-than-expected inflation, employment and wages growth, anything less than a 25 basis point increase could have been seen as a positive sign by the markets.

Local markets had already rallied strongly in the past two months, with the S&P/ASX 200 up 13% overall, which could have continued had a smaller rate hike occurred. A smaller US rate hike next week could also be interpreted bullishly by the markets.

With the 25 basis point rate rise that economists expected came a hawkish tone from the RBA governor. Albeit, with a slightly softer outlook than previously indicated.

“The board expects to increase interest rates further over the period ahead, but it is not on a pre-set course,” Mr Lowe said.

The markets could interpret this as a sign that rate hikes are finally starting to slow down and an extended pause could occur sometime next year, provided inflation is under control.

After four consecutive increases of 50 basis points, the RBA has now eased its interest rate increases to 25 basis points in October, November and December. 

Factors to consider when looking at the RBA’s monetary policy are consumer spending, inflation (and in turn wages) and the unemployment rate. As such, if consumers start contracting their spending, inflation and the unemployment rate stay on target and wages continue to grow, there may indeed be a pause in interest rate hikes.

Apart from inflation, there are positive signs for the Australian economy.

Unemployment has declined to its lowest rate since 1974 at 3.4%, wages growth has picked up and retail trade has already slowed in the last monthly estimate, with ABS data showing a 0.2% drop month-on-month from September to October.

Still, another important factor to consider is that the full effect of the RBA’s 275 basis point rate rises from a record low of 10 bps over the past six months has not yet been felt.

Plus, house prices and the real economy could continue to feel the impact of past rate rises for at least 12 months, according to Mr Lowe.

As the last RBA meeting until February 2023, this latest rates decision could signal more uncertainty for markets over the Christmas holiday period.

Past performance is not a reliable indicator of future performance.

Sources: 

• abs.gov.au, Retail Trade, Australia
• AFR, Back in a bull market; George Frazis; will the RBA hold?
• rba.gov.au, Cash Rate Target
• The Australian
• rba.gov.au, Statement by Philip Lowe, Governor: Monetary Policy Decision