May rate rise now ‘live’ after Reserve Bank says there’s still a strong case for further hikes

The Reserve Bank says struggling households could be hit with more rate hikes this year to offset the inflationary impact of surging migration and big public sector pay rises.

The Reserve Bank says struggling households with a mortgage could be hit with more rate hikes this year to offset the inflationary impact of surging migration and big public sector pay rises.

Economists said the chance of a rate increase as soon as next month was now “live”, after newly released minutes revealed the RBA board at its meeting on April 4 only narrowly decided in favour of holding the cash rate at 3.6 per cent, and that there were strong arguments in favour of an 11th straight increase to 3.85 per cent.

With mortgage repayments as a share of households’ disposable income set to jump to their highest on record, however, monetary policy was already judged to be “restrictive”, and the board judged that it was prudent to wait for further information on how heavily the aggressive series of rate hikes over the past year were weighing on spending, jobs and inflation.

Federal Treasurer Jim Chalmers in coming days will release the findings from the RBA review panel, which will include 51 recommendations that promise a major overhaul of how the central bank operates, including how it determines the level of the cash rate and whether policy decisions will be devolved to a specialist expert committee.

At this month’s meeting, the RBA nine-member board’s verdict to pause was welcomed by borrowers.

“This case (for a pause) rested on the observation that monetary policy had already been tightened significantly in a short period. The full effects of this on the economy were yet to be observed, given the lags in the transmission of monetary policy,” the minutes noted.

In contrast, the case for a 0.25 percentage-point interest rate increase was also strong and “founded on the observation that inflation remained too high, and the labour market was very tight”.

Surging population growth “could put significant pressure on Australia’s existing capital stock”, exacerbating the intense price pressures on renters, “which would in turn manifest in higher consumer prices”.

CBA head of Australian economics Gareth Aird said “the board appears more assured that stronger population growth will be inflationary than it is convinced more workers will dampen wages pressures a little”.

After capital city property values in March increased for the first time in almost a year, the RBA board members also noted that “there were already signs that the recent fall in housing prices might be smaller and more short-lived than expected”.

The minutes revealed the second key piece of information was “the increased risk of larger wage increases in parts of the economy, including in the public sector, later in the year”.

Board members also noted that the forecast for inflation to return to the 2-3 per cent target range only by mid-2025 left little room for slippage – and that this forecast was predicated on further tightening.

“Members recognised the strength of both sets of arguments, but, on balance, agreed that there was a stronger case to pause at this meeting and reassess the need for further tightening at future meetings,” the minutes revealed. “Members observed that it was important to be clear that monetary policy may need to be tightened at subsequent meetings and that the purpose of pausing at this meeting was to allow time to gather more information.”

That information included next Wednesday’s March quarter consumer price growth figure, as well as further data on the labour market, household spending and business conditions.

“The staff were also due to present a full set of updated forecasts at the following meeting,” the minutes noted. This ... addit-ional information would be valuable in reassessing the economic outlook and the extent to which monetary policy would need to be tightened further, especially given the range of uncertainties surrounding the outlook.”

Economists said a rate rise at the next month’s meeting was now firmly on the table.

NAB head of market economics Tapas Strickland said the minutes “suggest the May RBA meeting is very live and the RBA is taking a meeting-by-meeting approach to setting policy”.

Investors remained unconvinced, pricing in only a 25 per cent chance of a hike next month, although the probability of a rate rise by August almost doubled to 74 per cent in the wake of the release of the minutes.

Financial markets continued to factor in a slim chance of a rate cut by the end of the year.

But Citi economist Faraz Syed said “all the risks highlighted by the minutes suggest that the board is prepared to hike rates further, rather than look for an avenue to loosen its current tight stance on monetary policy”.

The RBA has been heavily criticised for failing to foresee last year’s inflationary outbreak, and for maintaining guidance late into 2021 that rates would stay at virtually zero until 2024. An internal review found this had damaged the bank’s reputation.

Dr Chalmers has said the 2-3 per cent inflation target will remain in place, but signalled wide-ranging changes in areas such as governance and communication, including creation of a separate interest rate-setting board staffed with monetary policy experts.

Foreshadowing the release of the expert review report, Dr Chalmers on Monday said “there are some recommendations which would require legislative change, there are some that would require the governor and the board to change the way that they go about things at the bank, there are some pieces of it which will factor into the statement of conduct of monetary policy”.

Deloitte Access Economics in a report published this week said the RBA had hiked rates too far, and this year’s two “unnecessary” rises in February and March would drive consumer spending backwards this year, sinking economic growth to its weakest since the 1990s recession, excluding the pandemic shock.