Shock RBA rate hike will ripple through 2023

The effects of this unexpected rate hike will reverberate through the economy.

Reserve Bank of Australia Governor Philip Lowe.

The Reserve Bank has thrown a real curve ball into not only the outlook for interest rates over the rest of the year but indeed the entire economic outlook as well.

It wasn’t just that the decision to go straight back to hiking after just a single month’s pause in April was a surprise; it certainly surprised me.

But that Governor Philip Lowe’s core rhetoric did a full 180.

In April, his words were all about taking some time to assess the impact of the 3.5 percentage-points of rate rises; specifically, that “the full effect of this substantial increase in interest rates is yet to be felt”.

Yet barely 30 days later, he’s switched to focusing much more emphatically on the too-high inflation; on the “importance of returning inflation to target within a reasonable time frame”.

Those words were not in the April statement; just – in both statements - the necessary motherhood assertion that the Board’s “priority” was to “return inflation to target”.

Now Lowe did explicitly refer to April’s ‘pause-to-assess’ and that this had revealed a welcome fall in inflation.

Indeed if anything the March quarter CPI showed underlying inflation falling a tad faster than the RBA had expected. This will be reflected in the updated RBA forecasts at the end of the week.

So again, why the rush back to a hike?

Yes, he referred to a tight labour market, and wages picking up pace – but, in overall terms, still low enough to see inflation get back to target provided productivity picked up.

And yes, he referred to services inflation still being “very high and broadly based and the experience overseas points to upside risks”.

But both of those were evident and recognised at the April meeting. So again, why pause then and go back to hiking now?

Much of the answer lies in the way both decisions were close to being a toss-of-the-coin.

The April minutes – surfacing two weeks after the meeting – revealed the board had considered both a 25-point hike and the pause; and the decision was a narrow one.

The minutes for this meeting in two weeks will show the same close call; but this time ending with the hike.

But this just makes the uncertainty more complicated. As it suggests they could easily have done it the other way round: a hike last month and a pause this month.

While that would have been the most probable alternative to what we actually got, taken at face value we could also have been given two pauses or two hikes.

With all of those options accompanied by essentially the same words about their thinking.

This is not to criticise the actual decisions; rather, to explain why we emerge from Tuesday with a more clouded rate outlook; but also – shared within the RBA itself – greater uncertainty about what develops in both the local and global economies.

Does services inflation, here and globally, stay too high?

Does the welcome drop in goods inflation level off; or worse, start to pick up again?

Does the economy slow more rapidly than expected; or does the surge in migration drive strong demand; and how does ‘everything’ play into the tight labour market and wages?

And then there’s house prices; they’ve bottomed and started to pick up into the supposed disastrous ‘mortgage cliff’ when all those fixed rate mortgages were going to re-price into today’s higher rates.

Further complications flow from re-rising prices for established properties- boosting household wealth and disposable incomes - and the surging costs and generalised chaos in new homes and construction.

So we end up with an exploding shortage of both new homes and rental accommodation.

It all adds up to a tricky future; and then there’s the coming budget.