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Aussie Dollar Bets Rest on Rate Hike View

The Australian dollar is trading at record highs but whether the currency will keep its momentum going depends crucially on whether the Reserve Bank of Australia (RBA) raises interest rates in the coming months.

Until the release of the consumer price index (CPI) numbers on Wednesday, which rose by 0.9 percent quarter over quarter, analysts were expecting Australia’s central bank to cut interest rates. Those views have shifted as high inflation has revived pressure on policy makers to act before prices rise further.

“There's really no other way to say it than to say the CPI was a whopping big print, and I think the market was poorly positioned for that when you look at what's priced in to the money market,” Todd Elmer, currency strategist at Citigroup, tells CNBC.

Elmer says its “completely unrealistic” to expect an interest rate cut by the RBA given the rising inflation.

“I think the next move is higher and I think the Aussie stands to benefit from that,” he says.

The Australian dollar surpassed the previous 29-year peak, which it struck in May and traded as high as $1.10 on Wednesday.

Sean Callow, senior currency strategist at Westpac Bank has been forecasting the central bank will cut interest rates. Despite Wednesday’s strong inflation data, he’s sticking by his call and says the Australian dollar will go down to as much as $1.01 by December.

“We don’t think that people should be buying the Aussie in expectation of a rate hike — I don’t think they will deliver on that,” Callow says.

Citigroup’s Elmer and Westpac’s Callow agree that global factors will also play a large role for the Aussie dollar, but differ on how the U.S. debt-ceiling talks will impact the currency.

Callow says failure of the U.S. to meet the debt ceiling deadline could hurt risk assets such as equities and the Aussie. Whereas, Elmer thinks whether a deal is reached in time or not, the U.S. dollar will continue to weaken, boosting the Aussie.

“I think the market has been pricing in recently the negative outlook for the U.S. and Europe and the fact that smaller countries such as Australia are a much better position on a fiscal basis, much better basis on a cyclical basis, and really stand to outperform,” Elmer says.