This month’s rate decision was once again a coin toss situation for the Reserve Bank of Australia (RBA). Namely, minutes from the September board meeting published on Tuesday revealed that the bank considered both the option of hiking rates and of keeping them on hold, with the latter eventually prevailing.
According to the RBA, the argument to raise the cash rate by a further 25 basis points was centred around the expectation that inflation will remain above target for a “prolonged period”, coupled with the risk that this period may drag out for even longer.
“This could occur if productivity growth does not pick up as anticipated or if high services price inflation is more persistent than expected,” the central bank said.
“Members observed that, were inflation to remain above target for an even longer period, this could cause inflation expectations to move higher, which would be likely to require an even larger increase in interest rates in the future. Such an outcome would be costly for the economy.”
Members of the RBA board, including Philip Lowe in his last meeting as governor, pointed out that a recent increase in petrol prices, which is a key input for households’ inflation expectations, demonstrated that the process of returning inflation to target may be “uneven”.
Inflation decreased to 4.9 per cent in the year to July, according to the latest monthly consumer price index (CPI) indicator, driven by falls in the prices of fruit and vegetables as well as fuel.
“However, fuel prices had increased sharply in August. By itself, this would boost headline inflation in the September quarter, relative to expectations in early August. Overall, however, inflation was still expected to continue to moderate over the second half of 2023,” the RBA said.
Overall, the RBA board members assessed that inflation was still too high and was expected to remain at a high level for an extended period, with the experience of other countries still suggesting that services price inflation could take some time to ease.
In reaching their latest interest rate decision, the board members acknowledged that the Australian economy is now experiencing a period of “subdued growth”.
“This was being led by household consumption, as high inflation weighed on household incomes and the effects of prior tightening in monetary policy worked their way through the economy,” the RBA said.
“The outlook for the Chinese economy had also become more uncertain over the prior month, and there were several channels through which this could affect Australia.”
The argument to remain on hold was based on interest rates having increased significantly over a short period and that the effects of tighter monetary policy have yet to fully flow through.
The RBA did consider the possibility that Australia’s economy may slow more sharply than is currently forecast given the potential for weaker consumption and the downside risks in China.
“On balance, though, members concluded that recent developments had not materially altered the outlook or their assessment that the economy still appears to be on the narrow path by which inflation comes back to target and employment continues to grow,” it said.
“In weighing up the two options, members agreed that the case to keep the cash rate target unchanged at this meeting was the stronger one.”
As repeatedly highlighted in the RBA’s recent communications, the board members warned that further tightening may be required if inflation proves to be more persistent than expected.
Members also noted that they will continue to pay close attention to developments in the global economy, household spending, and the outlook for inflation and the labour market.
The RBA’s next meeting on 3 October will be the first to be overseen by new governor Michele Bullock.
