The Reserve Bank of Australia is all but certain to raise interest rates in October – its sixth hike in a row – the RBA governor, Philip Lowe, has told a parliamentary committee.
Lowe told a House of Representatives’ economics committee on Friday the board would consider either a 25 basis point rise, or a fifth successive 50 basis point lift.
Among the factors determining the increase would be “what’s going on in the global economy”, he said, citing China’s slowdown as one key uncertainty clouding Australia’s future. The end of the RBA’s half-percentage-point hikes, though, was approaching, he said.
“As interest rates get higher, it’s common sense that the need for big adjustments gets smaller,” Lowe said.
Higher commodity prices in the wake of Russia’s invasion of Ukraine had helped Australia maintain an annual growth rate of about 3.5% so far in 2022. Higher interest, though, would start to dent demand from indebted households and businesses with the “maximum” impact to be felt after a lag of up to 18-24 months, Lowe said.
The 225bp increase in its cash rate from 0.1% since May was the RBA’s fastest pace since the 275bp rise between August and December 1994. Investors are predicting the cash rate may peak just shy of 4% by the middle of next year, although most commercial bank economists predict the rate will fall somewhere between 2.85% and 3.35%%.
NAB was among the first to alter its forecasts “in light of recent data” and Lowe’s comments, lifting its tip for the October rates meeting to a 50bp rise from an earlier forecast of half that.
“I’m more confident than many of my peers and other central banks that Australia can navigate this narrow path to bring inflation back down without [slowing] the economy too much,” Lowe said.
Lowe listed global risks, including wages rising at 5-6% in the US, a pace “not consistent” with the Federal Reserve’s target of having inflation average at 2%.
In Europe, there was the “broader issue” of a decline in people’s real incomes, with most European economies, including the UK’s, enduring inflation close to or exceeding 10%, Lowe said.
However, the challenges in China – easily Australia’s biggest trading partner – may be more of a drag on Australia’s growth. The rolling Covid-related lockdowns as the Chinese government continued to enforce a policy of zero cases, hurt consumer demand, while that country’s property market was “problematic” with developers going bust and not finishing projects.
“So if you put all that together, the outlook for the global economy next year is quite weak,” Lowe said. “And if it were to weaken further from our current forecasts, it’ll be difficult for us to navigate this path of getting inflation down while having our economy continue to grow reasonably well.”
Lowe also touched on Australia’s housing prices, saying a 10% fall would not be surprising. That drop, though, would still leave them on average about 15% higher than before the pandemic.
“As a society, we’re either complaining prices are going up or going down,” he said.
Further interest rates would, to a large degree, depend on whether inflation expectations remained elevated.
He said it was important wage increases did not rise too fast, otherwise the RBA would have to lift its interest rates even higher “and that would hurt a lot more”.
Real income would fall this year and next before a positive turnaround with inflation winding back from an expected peak of 7.75% in late 2022 to 3% by 2024.
Also contributing to inflation was that some companies were taking advantage of strong demand by increasing their profit margins. Lowe said “the process shouldn’t go too far”.
“I’m not saying there’s kind of gouging at the moment,” he said. “But, you know, we’ve got to make sure that the high profit margins don’t become a source of inflation.”
Among the uncertainties was how much of the extra $250bn saved by households during the pandemic would be spent and when. The uneven spread of those savings also complicated predictions.
As a whole, though, the RBA planned to be “vaguer” in its forecasts of future interest rate moves, particularly after its failure to predict how fast inflation would pick up in Australia, Lowe said. One reason for the misfire was Russia’s invasion of Ukraine, which affected energy prices everywhere.
Lowe, though, said it was “not my expectation” that next month’s budget – the first by the treasurer, Jim Chalmers – would lead to “another significant fiscal expansion” that would require the RBA jamming the brakes harder to curb inflation.
That said, he noted it remained a “significant issue” that Australia still had budget deficits even with the economy at its closest to full employment in 50 years. The country was also enjoying its highest ever ratio of export prices compared with the cost of imports. Budget demands were only going to grow.