ASX 200 slips as RBA minutes foretell further interest rate hikes in 2022

Boy looks quizzical standing in front of a graph.

Boy looks quizzical standing in front of a graph.

It’s been two weeks since the Reserve Bank of Australia (RBA) opted to increase the official cash rate by 0.5%, bringing it to 1.35%. At the time, the RBA also raised the interest rate on Exchange Settlement balances by 0.5% to 1.25%.

The RBA joined the US Federal Reserve and other leading central banks in ratcheting up interest rates to stem fast-rising inflation, with the latest quarterly figures showing inflation running at 5.1% down under.

Investors had been told as recently as late 2021 that no rate rises were on the horizon until at least 2024. The unexpectedly early and rapid rises have seen the S&P/ASX 200 Index (ASX: XJO) fall 12% this calendar year.

This morning, the RBA released the minutes of its last monetary policy meeting, offering insight into why rates were raised and what ASX investors might expect next.

Inflation at multi-decade highs

In making its decision to hike rates by 0.5% on 5 July, the RBA noted that “inflation had increased further to multi-decade highs and that the outlook for growth in a number of advanced economies had become more uncertain”.

The central bank cited risks during the meeting, including falling global household purchasing powers, and Russia’s invasion of Ukraine, which saw sharp rises in fuel, electricity, and food costs across much of the world.

Members of the Board also noted that price pressure “in parts of the global economy had started to abate”. That was driven by falling metals prices in recent weeks and some improvement in global supply chain logjams.

RBA notes resilient Australian economy

The Board also considered the “resilience of the Australian economy” which was evident in the strength of the labour market. Currently, the unemployment rate is at its lowest level in half a century even as the participation rate increased.

The RBA said the outlook is “for faster wages growth in the period ahead” with a big boost in the national minimum wage announced by the Fair Work Commission. The bank reported that 60% of private sector firms in its liaison program expect wages growth to increase over the coming year. The Board noted that the Wage Price Index “had increased by only 2.4% over the year to the March quarter”.

The firms in the RBA’s liaison program also reported a greater inclination to pass through cost increases they’re incurring to consumer prices.

“As a result of these price pressures, inflation was expected to increase in year-ended terms through the remainder of 2022,” the RBA said.

According to the minutes:

Members agreed that the outlook for domestic economic activity had eased a little, with a key source of uncertainty relating to the response of households to rising inflation, higher interest rates and declining housing prices in some cities.

As for the commercial banks

As you’re likely aware, most of the banks were quick to pass on the RBA’s May and June hikes to existing variable-rate housing borrowers and to most variable-rate small business borrowers. The banks have generally been slower to pass on the increases to their deposit rates.

The central bank noted, “Fixed-rate loans accounted for almost 40% of outstanding housing credit, and pass-through to these loans was expected to occur progressively over the following couple of years or so.”

The neutral rate and what to expect next from the RBA

Noting there’s a “significant degree of uncertainty about estimates of the neutral rate”, the Board said:

The current level of the cash rate is well below the lower range of estimates for the nominal neutral rate. This suggests that further increases in interest rate will be needed to return inflation to the target over time.

The RBA expects inflation in Australia to increase in the near term, peaking in late 2022, before falling towards its 2% to 3% target range next year.

According to the minutes:

Members agreed that further steps would need to be taken to normalise monetary conditions in Australia over the months ahead. The size and timing of future interest rate increases will continue to be guided by the incoming data and the Board’s assessment of the outlook for inflation and the labour market, including the risks to the outlook.

The Board remains committed to doing what is necessary to ensure that inflation in Australia returns to the target over time.

The post ASX 200 slips as RBA minutes foretell further interest rate hikes in 2022 appeared first on The Motley Fool Australia.

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Motley Fool contributor Bernd Struben has no position in any of the stocks mentioned. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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