RBA set to hold interest rate as inflation tops target, labor market remains tight
- The Reserve Bank of Australia is set to keep the interest rate steady at 3.60% in November.
- RBA Governor Michele Bullock’s press conference and updated economic forecasts will hold the key.
- The Australian Dollar could experience intense volatility on the RBA policy announcements.
The Reserve Bank of Australia (RBA) is widely expected to maintain the Official Cash Rate (OCR) at 3.6% after its November monetary policy meeting on Tuesday. The decision will be announced at 03:30 GMT.
The Monetary Policy Statement (MPS) will be accompanied by the quarterly economic forecasts, followed by RBA Governor Michele Bullock’s press conference at 04:30 GMT.
The Australian Dollar (AUD) remains at risk of experiencing intense volatility on any surprises in the central bank’s updated projections or Governor Bullock’s press conference.
RBA on-hold again, cautious on future rate cuts?
While speaking at the Australian Business Economists' Annual Dinner, in Sydney, on October 27, RBA Governor Bullock noted that “inflation is back in the target band and the Unemployment Rate is still pretty low, so still in good condition.”
Bullock said further that “we will have to decide whether a cut is needed to help the job market,” as “there's still a bit of tightness in the labor market.”
The Minutes of the RBA’s September monetary policy meeting also highlighted that “labor market is still a little tight,” and that “forward indicators are steady.”
Bullock’s words and the RBA Minutes clearly indicate that the central bank’s focus is on the labor market amid an impressive jump in the Australian Consumer Price Index (CPI) by the most in 2-1/2 years in the September quarter.
On October 29, the data released by the Australian Bureau of Statistics (ABS) showed the CPI rose 1.3% in the third quarter, beating the forecast of 1.1% growth.
The annual CPI inflation rate leaped to 3.2%, from 2.1%, breaking through the top end of the RBA's 2% to 3% target band.
Meanwhile, the Unemployment Rate jumped to an almost four-year high of 4.5% in September, according to the ABS data, topping the RBA’s peak forecast of 4.3%. However, employment increased by 14,900 people in September.
Amid red-hot inflation and a still healthy labor market, the RBA will likely hold its rein on further monetary easing, maintaining its cautious rhetoric.
Markets price in just an 8% chance that the RBA will lower the rate on Tuesday, down from 40% before the inflation data. The probability of a cut in December is now seen as less than 25%, per Reuters.
“Over the next 12 months, cash rate futures price in just one 25 basis points (bps) cut and the policy rate to bottom at 3.35%,” analysts at BBH noted.
That being said, the updated economic projections and the MPS will be closely scrutinized for fresh hints on the central bank’s path forward on rates.
How will the Reserve Bank of Australia’s decision impact AUD/USD?
The AUD is consolidating its correction from three-week highs of 0.6618 against the US Dollar (USD) heading into the RBA policy announcements.
If the RBA downgrades its inflation and growth forecasts, while flagging increased risks to employment, it could revive the odds of a 25 bps rate cut in December, triggering a fresh corrective decline in the AUD.
The Aussie could also regain downside traction if RBA Governor Bullock reveals that the board discussed a 25-bps rate cut at the meeting and some members dissent in favor of such a move.
On the other hand, if Bullock sticks with the bank’s cautious approach on further rate cuts, while sounding upbeat on the labor market, AUD/USD could see a fresh advance toward the multi-week highs.
Dhwani Mehta, Asian Session Lead Analyst at FXStreet, highlights key technical levels for trading AUD/USD following the policy announcement.
“AUD/USD has managed to defend the critical demand area near 0.6535, where the 100-day and 21-day Simple Moving Averages (SMA) align. The 14-day Relative Strength Index (RSI) holds its position just above the midline, currently near 51.50. These technical indicators suggest that buyers could retain control going forward.”
“The Aussie pair could stretch the recovery beyond the 50-day SMA at 0.6562 on a cautious hold decision. The next topside targets are seen at the three-week highs of 0.6618, followed by the 0.6650 psychological level. On the flip side, a sustained break of the abovementioned confluence support near 0.6535 could initiate a fresh downtrend toward the 200-day SMA at 0.6444,” Dhwani adds.
RBA FAQs
The Reserve Bank of Australia (RBA) sets interest rates and manages monetary policy for Australia. Decisions are made by a board of governors at 11 meetings a year and ad hoc emergency meetings as required. The RBA’s primary mandate is to maintain price stability, which means an inflation rate of 2-3%, but also “..to contribute to the stability of the currency, full employment, and the economic prosperity and welfare of the Australian people.” Its main tool for achieving this is by raising or lowering interest rates. Relatively high interest rates will strengthen the Australian Dollar (AUD) and vice versa. Other RBA tools include quantitative easing and tightening.
While inflation had always traditionally been thought of as a negative factor for currencies since it lowers the value of money in general, the opposite has actually been the case in modern times with the relaxation of cross-border capital controls. Moderately higher inflation now tends to lead central banks to put up their interest rates, which in turn has the effect of attracting more capital inflows from global investors seeking a lucrative place to keep their money. This increases demand for the local currency, which in the case of Australia is the Aussie Dollar.
Macroeconomic data gauges the health of an economy and can have an impact on the value of its currency. Investors prefer to invest their capital in economies that are safe and growing rather than precarious and shrinking. Greater capital inflows increase the aggregate demand and value of the domestic currency. Classic indicators, such as GDP, Manufacturing and Services PMIs, employment, and consumer sentiment surveys can influence AUD. A strong economy may encourage the Reserve Bank of Australia to put up interest rates, also supporting AUD.
Quantitative Easing (QE) is a tool used in extreme situations when lowering interest rates is not enough to restore the flow of credit in the economy. QE is the process by which the Reserve Bank of Australia (RBA) prints Australian Dollars (AUD) for the purpose of buying assets – usually government or corporate bonds – from financial institutions, thereby providing them with much-needed liquidity. QE usually results in a weaker AUD.
Quantitative tightening (QT) is the reverse of QE. It is undertaken after QE when an economic recovery is underway and inflation starts rising. Whilst in QE the Reserve Bank of Australia (RBA) purchases government and corporate bonds from financial institutions to provide them with liquidity, in QT the RBA stops buying more assets, and stops reinvesting the principal maturing on the bonds it already holds. It would be positive (or bullish) for the Australian Dollar.
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