Inflation remains stubborn! Reserve Bank of Australia keeps interest rates unchanged as expected, rate hikes are still possible

According to Zhihu Finance APP, the Reserve Bank of Australia (RBA) kept the cash rate unchanged at 4.35% on Tuesday, marking its second consecutive pause, in line with market expectations. The RBA has not achieved the midpoint of its 2-3% inflation target range for nearly five years.

In its post-meeting statement, the RBA said: “The Board remains committed to ensuring that high inflation does not become entrenched. Given monetary policy is considered slightly restrictive, the Board will continue to take the necessary actions to sustainably return inflation to target, including further increases to the cash rate target should upside risks emerge.”

After the rate decision was announced, the Australian dollar fell by 0.2%. The yield on Australia’s three-year government bond, which is more sensitive to policy, erased earlier gains and dropped by 2 basis points as market expectations for another RBA rate hike this year diminished.

The RBA has raised rates during each of the first three meetings this year and is now assessing whether to hold rates steady or further tighten monetary policy. The conflict between the US and Iran remains an uncertainty, as the war has triggered a global energy shock and pushed oil prices higher.

“Recent data has generally favored the RBA,” said Callam Pickering, economist at the recruitment platform operator Indeed Inc. “Inflation hasn’t risen as sharply as initially feared, and after some poor data earlier this year, the job market has stabilized.”

All four major Australian banks believe the RBA has completed its tightening cycle and will keep rates steady for some time before eventually shifting to an easing stance. Westpac’s Lucy Ellis noted that the high cost of borrowing and the end of tax incentives for property investors are putting pressure on the real estate market, demonstrating once again the powerful effect of fiscal and monetary policy working in tandem.

The RBA stated: “The outlook for domestic economic activity and inflation remains highly uncertain. In Australia, historically weak productivity growth continues to constrain potential growth.”

The RBA also released its quarterly economic forecast update on Tuesday. The report shows that both headline and core inflation are expected to reach the 2.5% target midpoint only at the beginning of 2028. The RBA noted that while the unemployment rate is expected to edge up slightly compared to three months ago, the labor market remains “slightly tight.”

The RBA still faces an inflation dilemma

The RBA’s decision to pause rate hikes brings its policy stance closer to that of the Federal Reserve. At the end of last month, the Federal Reserve kept interest rates unchanged for the fifth consecutive meeting, despite three dissenters voting for a 25 basis point increase. However, last Friday’s weak US employment data and slower price increases may help ease some of the Fed’s inflation concerns.

Meanwhile, after Iran reiterated its demand for compensation as part of ending the conflict negotiations, US President Donald Trump put forward a series of new demands to Iran. This has made hopes for a swift US-Iran agreement and re-opening the crucial Strait of Hormuz increasingly remote, pushing oil prices higher.

Brendan Rynne, Chief Economist at KPMG Australia, said: “The RBA is now in a dilemma. It is trying to return inflation to target while avoiding unnecessary damage to the labor market, but ultimately, its primary duty is to maintain price stability. Overall, another rate hike in the coming months would not be surprising.”