RBA to raise rates, but aussie cares about global forces – Forex News Preview



The Reserve Bank of Australia (RBA) is widely expected to roll out another 50bps rate increase when it concludes its meeting at 04:30 GMT Tuesday. Inflation is high and unemployment is at record lows, so the RBA could signal another move of equal size for September, providing some relief to the Australian dollar. Overall though, what the central bank does is secondary to how global forces evolve. 

Going strong

The Australian labor market is on fire. It’s not every day you see an economy with the unemployment rate at fresh record lows and labor force participation at record highs. More people are employed than ever before and the scarcity is attracting new workers into the jobs market.

With the domestic economy running on all cylinders and elevated energy prices, inflation has started to fire up. The Reserve Bank is worried that wage growth might follow suit as people demand higher wages, so it is raising interest rates in a forceful manner to prevent a wage-price spiral that keeps feeding inflationary pressures. 

In a recent speech, Governor Lowe pointed out that the ‘neutral’ level for interest rates - the one that is neither stimulative nor restrictive for the economy - is “at least” 2.25%. It is reasonable to assume the RBA will mimic the Fed and telegraph a slowdown once this rate is reached, but with rates currently at only 1.35%, it is probably too early for such signals. 

Market expectations

Heading into this meeting, a 50bps rate increase that brings rates to 1.85% is essentially fully priced in. If there is any surprise, the risks seem tilted towards an even larger move. The labor market is so strong that policymakers would likely prefer to front-load the rate increases, instead of playing it slow. 

Business surveys suggest companies raised their selling prices at the fastest pace on record in July, proving the RBA a good excuse to expedite the tightening process. The catch is that those same surveys pointed to slowing economic growth, therefore, a more measured 50 bps hike seems prudent. 

Another factor that might keep the Reserve Bank cautious is the housing market. With mortgage rates rising at light speed, recent data show house prices falling at the fastest pace since the global financial crisis. Of course, this follows a huge rally after the pandemic, but nonetheless, a sharp decline would be problematic for households that are already feeling the heat of inflation. 

Assuming the rate increase is indeed 50bps, the focus will shift to any signals about the next meeting in September. If the RBA indicates a similar move, that might still be enough to lift the aussie. Taking a technical look at aussie/dollar, a spike above the 0.7050 zone could open the door towards the 0.7160 region. 

Aussie has bigger fish to fry

Zooming out, the most crucial variable for the Australian dollar won’t be what the RBA does, but rather how the global economy evolves. The currency is driven mostly by the performance of commodity prices and risk sentiment in global markets, so it is unlikely to thrive in a regime characterized by recession concerns. 

The aussie is also sensitive to developments in China, the nation’s largest trading partner by far. While the Chinese economy seems to have stabilized after its lockdown-fueled slump, growth has stalled and the stress in the troubled property sector keeps building up. 

As such, it is difficult to trust the latest recovery in the Australian dollar, even if the RBA strikes a hawkish tone this week. Instead, what’s needed is an improvement in the global outlook that dispels recession fears, such as a ceasefire in Ukraine or China abandoning its strict lockdown strategy, before a trend reversal becomes realistic. 

In case of a retreat, aussie/dollar could encounter initial support around the 0.6960 barrier. 

Finally, note that the RBA’s quarterly economic projections will be released on Friday and might also matter for markets. 

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