Asia Economy

Australia central bank says rates still too low to contain inflation

Key Points
  • Australia's central bank sees a need for more policy tightening as, even after recent hikes, interest rates are still too low to constrain inflation expectations amid a strong labor market.
  • Minutes of its July policy meeting out on Tuesday showed the Reserve Bank of Australia Board discussed the neutral rate — one that is neither expansionary nor contractionary - and decided the current rate of 1.35% was "well below" that.
  • "The level of interest rates was still very low for an economy with a tight labor market and facing a period of higher inflation," the minutes showed.
A pedestrian walks past the Reserve Bank of Australia building in Sydney on May 03, 2022. Australia's central bank sees a need for more policy tightening as, even after recent hikes, interest rates are still too low to constrain inflation expectations amid a strong labor market.
Brook Mitchell | Getty Images News | Getty Images

Australia's central bank sees a need for more policy tightening as, even after recent hikes, interest rates are still too low to constrain inflation expectations amid a strong labor market.

Minutes of its July policy meeting out on Tuesday showed the Reserve Bank of Australia (RBA) Board discussed the neutral rate - one that is neither expansionary nor contractionary — and decided the current rate of 1.35% was "well below" that.

"The level of interest rates was still very low for an economy with a tight labor market and facing a period of higher inflation," the minutes showed.

"Members viewed it as important that inflation expectations remained well anchored and that the period of higher inflation be temporary."

The central bank raised rates by 50 basis points at the meeting, the third hike in as many months.

The neutral rate has been estimated to be in a range of 2%-3%, with RBA Governor Philip Lowe often nominating 2.5% as around neutral.

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However, the minutes showed the Board was concerned the neutral rate would rise if higher inflation became backed into household and business expectations.

Since the Board meeting on July 5, data has showed unemployment fell sharply in June to a 48-year low of 3.5% as hiring outstripped all expectations.

With vacancies still at record highs and Australia essentially at full employment, markets wagered the RBA might chose to tighten even faster and raise rates by 75 basis points in August on the way to 3.25% by year-end.

Consumer price figures due next week are expected to show annual inflation accelerated beyond 6% in the June quarter, and the RBA itself expects it to reach at least 7% by Christmas.

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Tuesday's minutes showed the RBA expected inflation to decline back towards its 2%-3% target band in 2023, though that depended on expectations remaining anchored.

The Board also discussed how Australia's heavily indebted households would fare in the face of rising borrowing costs and inflation.

Spending data had so far held up well and many households had built up large excess savings following two years of pandemic lockdowns.

"Members agreed it was important to continue to monitor these various influences on household spending when assessing the appropriate setting of monetary policy," the minutes showed.