Photographer: Brent Lewin/Bloomberg

Aussie Rate Cut Bets Are Rising on Inflation Expectations

  • Core inflation dipped below RBA target range in first quarter
  • Currency strength, low CPI drive rate-cut expectations: CBA

Traders are betting Australia’s central bank will cut interest rates as early as next month as inflation sinks below its target.

The futures market is pricing in a 58 percent chance the Reserve Bank of Australia will cut its cash rate 25 basis points at its Aug. 2 meeting after a two-month pause. The odds are up from 48 percent a week ago. Consumer-price gains slowed to an annual 1.1 percent in the first quarter, according to the median forecast of economists surveyed by Bloomberg before the report July 27. Core inflation dipped below the RBA’s 2 percent to 3 percent target range for the first time this century in three months ended March 31.

Policy makers, who meet a week after the CPI data is published, in May noted global disinflation trends compounding Australia’s historically low wage increases. The Australian dollar’s rally, which saw it clock up a seven-week winning streak through July 15, also adds to the case for a rate cut, with Governor Glenn Stevens warning in his last four meetings the appreciating exchange rate could complicate the economy’s transition away from mining investment.

“A combination of the need to avoid currency strength and confidence in a low CPI number is underpinning expectations the RBA will cut in August,” Adam Donaldson, head of debt research at Commonwealth Bank of Australia said. “Weak wage growth, global disinflation trends, and evidence of retail discounting are all contributing to the inflation view.”

CBA expects the central bank to cut in both August and November, though the second reduction could be earlier if the inflation reading were “very weak’’ and house-price growth flattens, Donaldson said.

Measures of inflation expectations -- from consumers, market economists, union officials and financial markets -– remained below average, the central bank said in minutes of its July meeting, at which it left rates unchanged at a record-low 1.75 percent. The RBA tracks core inflation based on the trimmed mean consumer price index and the weighted median CPI. The RBA will also update its quarterly forecasts for inflation and growth in time for the August policy meeting.

Economists at National Australia Bank Ltd. including Tapas Strickland, forecast in a note Wednesday a core inflation reading of 0.4 percent to 0.5 percent in the second quarter from the prior three months, compared with RBA expectations for 0.4 percent. That should be enough allow the central bank stay pat, though a number below that will force a cut, it said.

Options Open

The RBA in its minutes Tuesday kept its options open as it predicted the economy probably cooled last quarter, momentum in the jobs market has eased and inflation is set to remain weak.

Information on inflationary pressures and the labor and housing markets “would allow the board to refine its assessment of the outlook for growth and inflation and to make any adjustment to the stance of policy that may be appropriate,” the central bank said. It said retailers were facing pressure to discount prices due to competition.

“The minutes clearly leave the door open for another rate cut in August,” Westpac Banking Corp.’s Chief Economist Bill Evans wrote in a note after the minutes, adding that its forecast for underlying inflation in the quarter is 0.3 percent.

The Australian currency tumbled 1.2 percent on Tuesday as the minutes increased speculation of a cut. It’s on course for its first annual gain in four years and fetched 74.68 U.S. cents as of 10 a.m. in Sydney Thursday.

Inflation below expectations be a significant drag on the Australian dollar, NAB said, adding that the data “will be paramount for market expectations of another 25 basis points rate cut.”

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