Australia holds interest rates, vigilant on inflation risks

The Australian dollar slipped 0.3% to $0.6606, while three-year bond futures rallied 7 ticks to 96.05 and markets trimmed bets of another hike this year with an implied probability of 16% for September from 43% before. "Recent data indicate that, while inflation is easing, it is doing so more slowly than previously expected and it remains high," said the RBA in a statement, adding that it would remain vigilant to upside risks.

Australia's central bank held interest rates for a fourth straight meeting on Tuesday, while noting inflation was easing more gradually than hoped and that it was vigilant to upside price pressure risks. Wrapping up its two-day May policy meeting, the Reserve Bank of Australia (RBA) kept rates at a 12-year high of 4.35%.

However, it stopped short of reinstating a tightening bias as some economists had expected after first quarter inflation and the labour market failed to cool as much as expected. The Australian dollar slipped 0.3% to $0.6606, while three-year bond futures rallied 7 ticks to 96.05 and markets trimmed bets of another hike this year with an implied probability of 16% for September from 43% before.

"Recent data indicate that, while inflation is easing, it is doing so more slowly than previously expected and it remains high," said the RBA in a statement, adding that it would remain vigilant to upside risks. "The path of interest rates that will best ensure that inflation returns to target in a reasonable timeframe remains uncertain and the Board is not ruling anything in or out."

The RBA dropped its explicit tightening bias in March and did not consider a hike as the economy slowed to a crawl and inflation looked to be on track to ease to its 2-3% target band in late 2025. However, the bank's latest forecasts show inflation is expected to pick up to 3.8% and stay there until the end of the year. It hit 3.6% in the first quarter.

Inflation slowed less than expected in the first quarter, underlining a home grown inflation challenge, while recent labour market data confirmed only a gradual loosening, with the jobless rate at 3.8% in March. "Talk around another cash rate hike was largely borne of stubborn inflation pressures and this persists with the Reserve Bank raising its near-term inflation forecasts," said Dwyfor Evans, head of Asia-Pacific macro strategy at State Street Global Markets.

"However, remarks around a peak in wage growth and expectations on inflation moving back to target range – a longer process than previously anticipated – seem to open up a period of unchanged rates with no near-term appetite towards rate easing." Globally, other central banks are also struggling in their last mile attempts to get inflation back to their targets, complicating the outlook for eventual rate cuts.

The Federal Reserve is now expected to cut less than twice in 2024, a change from about six reductions priced in at the beginning of the year.

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