Phil O’Donaghoe, Deutsche Bank’s Australian chief economist, has reaffirmed its forecast for a terminal cash rate of 4.6 per cent.
This is despite a cumulative 400 bps in rate hikes from the Reserve Bank of Australia (RBA) in just over 12 months — one of the most aggressive tightening cycles in decades.
“The evidence increasingly suggests to us that the level of rates is still too low,” he said.
Drawing on previous comparative inflationary cycles, Mr O’Donaghoe said policy rates remain well below mid-2008 levels, which saw the cash rate peak at 7.25 per cent.
At the time, annualised inflation peaked at 5 per cent in the September quarter, well below the latest inflation reading of 6.8 per cent in the 12 months to May 2023.
According to Mr O’Donaghoe, the proportion of interest repayments relative to household income was higher in 2008, suggesting the RBA has more room to move during its current tightening cycle.
“At current levels of household income, we estimate it would take a cash rate closer to 6 per cent for the household interest burden to match its 2008 level,” he said.
“The RBA has more work to do.”
The Deutsche Bank economist has forecast two additional 25 bps hikes in August and September, but said risks are tilted for an earlier hike (potentially in July) and for a higher terminal rate.
Mr O’Donaghoe is among a host of economists to project a terminal cash rate of 4.6 per cent, including representatives from three of the big four banks — ANZ, NAB, and Westpac.
The Commonwealth Bank’s base case is for a peak rate of 4.35 per cent, however, the bank conceded risks of two additional hikes are tilted to the upside.
These revisions came in response to the RBA’s hike in June, which markets interpreted as a hawkish shift in its monetary policy strategy,
This followed the Fair Work Commission’s decision to increase award wages by 5.75 per cent, as well as a higher-than-expected reading for inflation.
Since the June meeting, labour market indicators also surprised markets, with the unemployment rate falling to 3.6 per cent following a mild increase in April.
But minutes released by the RBA on Monday (19 June) suggested the central bank’s decision to hike in June was never nailed in.
The RBA considered the case for both a hike and a hold, but ultimately decided the former case was a “stronger one”.
“The board affirmed that its priority is to return inflation to target within a reasonable timeframe,” the RBA noted.
“The recent data suggested that inflation risks had shifted somewhat to the upside. Given this shift and the already drawn-out return of inflation to target, the board judged that a further increase in interest rates was warranted.
“This increase would provide greater confidence that inflation would return to target over the period ahead.”
The central bank remains determined to bring inflation back to the 2–3 per cent target range, and says it continues to expect to achieve its objective via the “narrow path” — combating inflation while preserving gains in the labour market.
“Members reaffirmed their determination to return inflation to target and their willingness to do what is necessary to achieve that,” the RBA minutes read.