We think they are waiting for the next series of inflation data to come out, which is before the next meeting of the RBA in August.
We think it is likely that in August the cash rate will increase from 4.35% now, to 4.6% in August.
We think that three months after that in November, it is highly probable, depending on the data between August and November, that the RBA will increase rates a second time to 4.85%.
How can it possibly be that the RBA would want to continue to increase interest rates in a situation where the oil price now seems to be falling after the end of hostilities in Iran? After all, hasn’t our Treasurer, Jim Chalmers, told us that Australian inflation is entirely the result of the war in Iran and the high price of oil? Now that that is coming down, surely Australian inflation will fall and therefore the RBA will not need to hike rates.
To, Understand why ,It is very useful to actually look at the most recent CPI for April. What we find is the problem here is persistently high non-tradable inflation in Australia. Non-tradable inflation measures the price growth of domestic goods and services that are not exposed to international trade competition. These are the output of the government sector. Currently, domestic non-tradable inflation is running at a persistently high rate of 4.7%. That is driven by structural pressures, including surging electricity prices. We talked about this earlier in the year as what we thought was the major cause of Australian inflation: surging electricity prices, new dwelling prices, and rising medical and hospital services.
Australia's domestic price pressures are notably outpacing internationally exposed goods. This is called the tradable sector, or the private sector. Where the inflation is coming from is the public sector, in which there are high prices and very low productivity growth, not the private sector, which has relatively low inflation and higher productivity growth. Right now, inflation in the non-tradable goods sector in the most recent CPI was 4.7%, as opposed to inflation in the tradable goods sector, or the private sector, of 3.2%.
It is interesting that in the private sector this includes oil prices. So it is not oil prices that are causing inflation. It is the non-tradable goods sector, or the government sector. Last year, when the RBA was successful in getting inflation down to its target of 2.5% and was able to cut interest rates, non-tradable goods inflation was 4.5%, but tradable goods inflation was all the way down to zero. That is because the oil price was falling. That allowed a total average inflation of 2.5%, which enabled the RBA to cut last year.
It was the achievement of the private sector which overwhelmed the high inflationary impact of the public sector, which allowed rate cuts last year. As that disappeared this year with increasing oil prices, the major inflationary effect of the public sector generated the situation we are now in.
So what we think, if we compare what is happening in Australia, where our model estimate of the cash rate is 4.85%, to the US our model for the Federal Reserve Funds rate of 3.73% is only slightly higher than the actual level of the fed funds rate of 3.6%.
Therefore, we think there will be no increase in the Fed Funds rate now or for the next few meetings.
But the problem in Australia is that we have this very high level of government sector inflation, which is dragging up inflation for the whole of the economy and therefore generating upward pressure on Australian domestic interest rates.
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DISCLAIMER: Information is of a general nature only. Before making any financial decisions, you should consult with an experienced professional to obtain advice specific to your circumstances.
