The RBA are expected to hike by 25bp tomorrow

The RBA are expected to raise interest rates by 25bp to 3.35% tomorrow, which would take rates to their highest level since September 2012. If so, it would be their fourth consecutive 25bp hike and ninth back-to-back hike this cycle – which is their most aggressive in history. Even so, their rates remain well below RBNZ’s 4.25% and the Fed’s 4.75%, which is concerning given both of those central bank started hiking considerably sooner than the RBA, and continue to battle high levels of inflation.

Still, there is evidence that the (relatively low) interest rate is starting to bite on the economy. If we look at data since their last meeting, it could be argued the economy is slowing overall. Manufacturing, services and construction PMI’s have been contracting according to AIG, although their latest report is due tomorrow ahead of the RBA meeting. Retail sales dipped for the first time in a year in Q4 by -0.2% q/q, as consumers cut back spending. This could be taken as a sign from the RBA that their tighter policy is working.

Unemployment is 3.5% compared with the RBA’s 3.4% forecast in November, but this is not likely a large enough deviation for it to matter, and employment numbers are robust overall. Wage prices are on target at 3.1% q/q, but inflation is a fly in the ointment for the RBA.

Inflation is the fly in the ointment for the RBA

Trimmed mean CPI rose 6.9% y/y compared with the RBA’s 6.5% forecast, and inflation rose 8.1% compared with the RBA’s 8% forecast. We will have to wait until Friday’s SOMP (Statement on monetary policy) to see if the RBA have upgraded their inflation forecasts – which would be as good as a rate hike if they do. If this were any other central bank I’d call for a 50bp hike but, based on the assumption they really do not want to hike rates if they don’t need to, I’ll stick with a 25bp hike in February and March.

According to a Reuters poll, 30 out of 31 economists expect a 25bp hike to 3.35% tomorrow, up from 23 out of 27 in January. 19 out of 30 see the cash rate peaking at 3.6%, but I suspect there is a greater chance of it eventually rising above 4% than the consensus currently estimates. US inflation peaked in July yet the Fed are still hiking, and inflation in Australia has not yet peaked. And whilst China’s reopening has brought with it cheers of a soft landing, it is also inflationary which could see CPI reaming higher and stickier than anticipated later this year. And whilst the employment situation remains robust and inflation remains high, it’s a green light for the RBA continue hiking.

AUD/USD daily chart:

The Aussie took quite a battering on Thursday and Friday following the Fed’s meeting and strong NFP report, and fell -3.7% from its YTD high by Friday’s close. There’s been a mild attempt move lower today, but I suspect we’ve seen the meat of the downside move for now, especially with RSI (2) hitting the oversold level. And with the RBA tipped to hike tomorrow, this leaves the potential for AUD/USD to post a countertrend move ahead of the meeting – with its fate to then be decided by the level of RBA tightening.

A surprise 50bp hike could send AUD/USD happily above 70c, although this is not my base case scenario. But a 25bp hike with hint of more to follow should also support the Aussie and help lift it from its current lows. A 15bp hike could signal we are close to the terminal rate and weigh on the Aussie, and likely lift the ASX 200 back towards its record high.

ASX 200 daily chart:

The ASX 200 has all the hallmarks of a strong trend, with higher volumes accompanying higher prices and little in the way of pullbacks. Moreover, the OBV (on balance volume) has broken to a new high which suggests a break to a new record high is on the cards. However, it is rare to see a market simply break through such a milestone level, and the close it gets to 7600 or the 7624.80 high, we have to assume greater odds of a pullback before its trend resumes as investors book profits. Of course, a surprise 50bp hike tomorrow could shake some bulls out of their positions and trigger a pullback, whereas a 15bp hike could potentially send it higher.