Key Points
  • RBA Board minutes for the May meeting revealed it considered raising the cash rate off the back of stickier-than-expected inflation.
  • Quarterly inflation hit 1% in the three months to March; most times this happened in the past 20 years, the RBA raised the cash rate at its subsequent meeting.
  • That said, there could be a shift to be more tolerant of higher inflation, with some chatter about inflation not returning to target until beyond 2026.
  • There could be more eyeballs on forthcoming retail trade data as the RBA cited weak demand as reason for the cash rate hold.

Ultimately, the nine-member Board wrapped up its 6-7 May meeting by voting to leave the cash rate unchanged at 4.35% for the fourth consecutive time. 

This marked a shift from their previous meeting in March when the Board did not discuss this option for the first time since it started its aggressive run of rate hikes in May 2022.

The published minutes made it clear the more hawkish policymakers were concerned “that most of the data received since the previous meeting had been stronger than expected” and that these data suggested “there may be somewhat less slack in the economy than previously assessed”.

Stronger economic datasets caused the rate hike discussion, the minutes confirmed.  

RBA grows wary over sticky inflation

The members noted that while inflation is easing in year-ended terms, the persistent services price inflation poses a risk of delaying the return of inflation to target. 

Prior to the meeting, promising signs of inflation easing to the range RBA deems ideal were rocked when the ABS’ consumer price index (CPI) showed headline inflation rose 1% in the March quarter, bringing the annualised rate to 3.6%.  

Historically, barring the Covid-19 pandemic, the RBA is known to raise the benchmark rate whenever quarterly inflation accelerates by 1% or greater.

The trimmed mean inflation, which is the central bank's preferred gauge in measuring the rise in consumer prices, accelerated to 4%, also faster than the RBA’s 3.8% indicative forecast. 

“Raising the cash rate at this meeting could be appropriate if the Board formed a view that the judgements underpinning the staff forecasts risked being overly optimistic about the forces that would drive down inflation, leaving the balance of risks tilted to the upside,” the minutes read. 

“A higher cash rate might also be required, even with ongoing weakness in aggregate demand, if other factors slowed the pace of disinflation."

The Board believed this could occur if trend productivity growth remained weaker than assumed, “unless wages growth were to moderate in response”.

Jobs data in March showed Australia’s unemployment rate rose to a revised 3.9%, suggesting a slight easing in the labour market; more recent data also indicated further softening following a 4.1% lift. 

The members noted the labour market conditions are easing less than anticipated in the first quarter of the year while acknowledging a few promising signs.

“The participation rate and employment-to-population ratio also remained near record high levels, though average hours worked and job vacancies had both declined further,” they said. 

The latest wage price index (WPI), which came out after the RBA’s May meeting, offered a positive update for the central bank as the 0.8% quarterly rise in pay growth brought the annual rate down to 4.1% from 4.2%, suggesting wages growth was moderating. 

Expectations remain inflation will return to target 

The Board ultimately agreed that the case to leave the cash rate unchanged was the stronger one, given the risks around the forecast were seen to be balanced and the staff forecasts presented “a credible path back to the inflation target”.

“Inflation was still declining towards the target and the recent information did not materially alter its trajectory,” the minutes read.

“Furthermore, the forecasts showed a credible path by which the Board could meet its objectives in a timeframe that was consistent with the Board’s strategy.”

The balanced assessment mentioned is predicated on the assumption of little change in interest rates until mid-2025. 

The minutes revealed the Board appeared to be prepared to tolerate above-target inflation for a little longer than previously anticipated. 

A line read, “they expressed limited tolerance for inflation returning to target later than 2026”, whereas the prior assessment in November 2023, when the rate-setting committee lifted the cash rate, was “it has a low tolerance for inflation returning to target after 2025”.

This shift in the Board’s tone materialised in their post-pandemic monetary policy strategy of balancing the timeframe of returning inflation to target while minimising the rise in the unemployment rate. 

Following its decision at its May meeting, the RBA updated its near-term mean inflation forecasts.  

From 3.3% in June and December 2024 indicated in its February Statement on Monetary Policy (SoMP), the Reserve Bank now forecasts core inflation to land at 3.8%.

By June next year, it’s expected to hit 3.2% rather than the previously forecast 3.1%.

And by mid-2026, the May SoMP maintains inflation to reach the midpoint – 2.6% – of the RBA’s target range. 

Weak activity strengthened the case to hold the cash rate

In addition to notable yet soft data “insufficient to warrant a change” in their current stance, the Board elected to hold the cash rate over concerns about a more material slowing in the economy.   

“Holding the cash rate steady could also be an appropriate way to mitigate the risk that future demand growth turned out to be slower than envisaged in the forecasts, bringing inflation back to target more quickly than assumed, and pushing unemployment well above the level consistent with full employment,” the minutes read. 

The members also believed holding could mitigate the risk that the labour market is already close to full employment.

Labour market conditions were forecast to moderate gradually, and the unemployment rate was expected to be consistent with full employment by mid-2025.

“While the Board discussed the merit of hiking rates, there is clearly a very high reluctance given weakness in aggregate demand,” NAB head of market economics Tapas Strickland said. 

“It would take a sharp surprise in CPI to make a rate hike a real possibility, in which the debate would likely be framed around whether trend productivity growth was turning out weaker than assumed given policy is assessed to be particularly restrictive for households,” he added. 

In light of recent updates, major bank economists remain fully priced that the central bank will deliver a rate cut in November, although skewed toward a later start to the easing cycle. 

This view was further reinforced following the announcement of the 2024-25 Federal Budget which included circuit-breaker measures expected to add inflationary pressures. 

“We had flagged that fiscal policy was one of the risks that could delay our base case that monetary policy easing would start in November this year,” CBA senior economics Belinda Allen said. 

“This risk is now more real.

“However, we are of the view that any outperformance of the consumer would delay the start of the easing cycle, rather than encourage another hike,” she added. 

Aussies plan to save 80c of every tax relief dollar

While the Budget’s cost of living support measures were relatively well-received by Australians, consumers remain uneasy about inflation. 

The Westpac-Melbourne Institute Consumer Sentiment Index slid 0.3% to 82.2 in May from 82.4 in April. 

The index, also released on Tuesday, found that renewed cost of living pressures have more than offset the relief offered in the Federal Budget. 

“While expectations improved a touch in May, this was overshadowed by a further deterioration in current conditions and fears that persistently high inflation may require further interest rate rises,” Westpac senior economist Matthew Hassan said. 

“Importantly, the sentiment level and mix, and responses to additional questions about July’s tax cuts point to continued spending restraint by consumers heading into the second half of the year.”

In its minutes, the RBA noted the higher household saving rate amid weaker consumer spending. 

Despite additional money coming into the pockets of tax-paying Aussies come 1 July, the trend of saving more and spending less may continue. 

The majority of respondents the Westpac-MI surveyed said they intend to save their tax savings. 

Of those who expect to receive a tax cut, 30% plan to save all of it, while a further 50% expect to save at least half. 

“The results suggest consumers will use tax relief as an opportunity to repair their finances and rebuild saving buffers rather than spend,” Mr Hassan said. 

“If they follow through on this plan, only $4.7 billion of the $23.3 billion in tax relief will be spent, giving a spending boost of 0.35 percentage points. If they instead opted to save half, the boost would be closer to 0.9 percentage points.”

Photo courtesy of the RBA