Australia’s inflation fight is far from over, with AMP chief economist Shane Oliver warning the Reserve Bank is still “heading in the direction of a hike” as a revamped US Federal Reserve turns more hawkish under new chair Kevin Warsh.
The Reserve Bank of Australia (RBA) has kept the cash rate at 4.35 per cent, but Oliver said governor Michele Bullock is sounding “hawkish” and remains focused on the risk of entrenched inflation.
Speaking on Relative Return Insider, Oliver said the RBA is still more concerned about having to raise rates again than it is about the case for cuts, following its June decision to leave the official cash rate unchanged at 4.35 per cent.
“Inflation is still too high and likely to stay that way for a while yet, so the Bank has to keep the door open to further hikes. They’re not talking about cuts; they’re still talking about raising rates if necessary,” Oliver said.
Following recent data, AMP is now forecasting the possibility of up to two further rate hikes before Christmas.
“We’re still allowing for another hike in August and potentially another one in November.
The wage decision was a lot stronger than expected, and that’s pushed us towards pencilling in a second move.”
Oliver said there is growing evidence previous rate increases are working, and that the central bank is determined not to repeat past policy mistakes.
“The property market has cooled, auction clearance rates are weaker, consumer confidence is depressed and household spending has slowed,” he said.
“The RBA is trying to avoid the mistake of 2022, when they waited too long. If you just sit back and hope the forecasts are right, by the time you act it can already be too late.”
With three major supply shocks already – the pandemic, Ukraine and the oil shock – Oliver warned a fourth could emerge from the artificial intelligence (AI) investment boom. While inflation could reduce in the long-term, he said, it could add to inflation due to the demand for commodities needed to fuel its growth.
The key risk, he said, is that repeated shocks could entrench higher inflation expectations.
“Over time AI could be disinflationary, but in the short term it’s adding to demand for energy and commodities.
“If people stop believing in the 2-3 per cent target, they demand higher wages, businesses push up prices and you end up with a more inflation-prone economy. The RBA has to lean against that.
“You’ve got all these things coming on top of each other, which have caused, obviously, a problem for central banks and that makes life a little bit difficult for the Reserve Bank in trying to assess all of that.
The danger with all of those things is that coming on top of each other, all those inflationary shocks, is that they lead to higher inflationary expectations.”
Heading into the end of the financial year, attention is turning to upcoming monthly CPI and labour market data.
“Headline inflation may hold around 4.2-4.3 per cent, but we see the trimmed mean edging up towards 3.5-3.6 per cent, which would keep the prospect of another RBA hike alive,” Oliver said.
“Jobs data should show unemployment easing back from 4.5 per cent to around 4.3 per cent, and household spending might bounce after a weak April. Globally, the main story is still central banks shifting from an easing bias towards a mild hiking bias.”
Less “hand-holding” of markets in Warsh era
The comments come as new US Federal Reserve leadership under Kevin Warsh signals a shift in communication style from previous chairs.
At the 17 June meeting, the Federal Open Market Committee (FOMC) held the benchmark rate at 3.5 to 3.7 per cent in a unanimous decision.
“Kevin Warsh is very different to Bernanke, Yellen and Powell. This is going to be a very different Fed – much less guidance, much less hand-holding of markets,” Oliver said.
Warsh’s post-decision press conference was notably restrained, and he declined to submit any dot plot forward guidance.
“The statement was effectively cut in half and offered no real guidance on where rates might go. Warsh even declined to submit his own dot, so we don’t actually know where the chair stands,” Oliver said.
“The overall message from the Fed was quite hawkish. If the Fed steps back from giving guidance, you risk markets whipping around with every data release. A bit less noise is good, but no guidance at all could mean a much more volatile ride.”
Warsh’s approach contrasts with the policy preferences of Donald Trump, who has long pushed for lower interest rates. Markets are now pricing a heightened chance of a Fed move by year-end.
“Trump wanted lower interest rates, but his own policies made that almost impossible. Higher tariffs, war with Iran and bigger budget deficits have all added to inflation pressure and kept the Fed from cutting,” Oliver said.
