The pressure on the Reserve Bank of Australia to continue to hike interest rates has further eased after the announcement that a range of inflation metrics had fallen more than forecast. The relative performance of the AUD on major forex has improved lately as currencies such as the EUR and GBP have suffered corrective pressure. However, the confirmation that inflation is easing in Australia means that AUD pairs find themselves at a key crossroads.
- Australian inflation continues to moderate
- The shallowing path of RBA rate hikes
- AUD is at a key crossroads versus EUR and GBP
Further evidence of receding Australian inflation
Australian inflation continues to fall. After monthly inflation fell more than expected for May, the anticipation has been that inflation for the whole of Q2 could be soft. However, the data has shown that inflation across a series of metrics has all come in lower than forecast.
With quarter-on-quarter inflation rising by just +0.8% in Q2 (the lowest increase since Q3 2021) the annual inflation has fallen to 6.0%. This was below the 6.2% forecast and well down from the 7.0% in Q1. Inflation for the month of June also receded to 5.4% (from 5.5% in May). Core inflation (analysts look at the trimmed mean inflation for Australia) fell to 5.9% which was again under the consensus forecast of 6.0%.
The tight labour market poses questions of further tightening
Falling inflation is key for the Reserve Bank of Australia’s monetary policy. However, inflation remains double the Reserve Bank of Australia’s target of 2% to 3%. The RBA held rates steady at 4.10% in what I described as a “hawkish hold”. The reason is that there is set to be a jump higher in inflation in the coming months as there will be a 20% spike in electricity prices year on year to factor in. The labour market remains extremely tight, with the unemployment rate around 50-year lows. It has been expected that this would induce the RBA into hiking by 25 basis points at least once more this year.
It does, however, look as though the RBA will now be on hold at its announcement on 1st August. Interest rate futures are suggesting that what was a 50/50 call is now looking more like a probability of around 30% for a hike. The final hike is likely, if at all in September. According to Reuters, three-year bond futures are now pricing a peak of 4.32%, down from 4.42% previously.
It would seem that the path of RBA rate hikes is increasingly being called into question. Just one more 25bps hike could be seen. According to interest rate futures, the peak of the Bank of England’s base rate is expected to be another 75 basis points higher. The European Central Bank is expected to hike by 50 basis points before its peak.
The key to how the AUD performs relative to the GBP and the EUR could be laid bare in the next week or so. The ECB policy meeting is on Thursday 27th July, the RBA is on Tuesday 1st August and the BoE is on Thursday 3rd July. The message that these central banks put out on the prospects of further interest rate hikes will be crucial. Rate expectations are falling for all three central banks now, so the forward guidance that they give over the coming week will likely determine the next bout of performance on GBP/AUD and EUR/AUD.
Technicals on EUR/AUD and GBP/AUD are at a key crossroads
The AUD has strengthened relative to both EUR and GBP over the past couple of weeks. This has come as expectations of ECB and BoE hikes have been reined in. However, with this Australian CPI reading, the AUD has stalled its recovery.
On EUR/AUD, a resistance band between 1.6515/1.6602 has formed in recent weeks as the weakening of the AUD has been put on hold. This has formed a choppy trading range above a key low at 1.6228. This morning’s Australian inflation has seen the pair pick up once more. However, it is a pair that is at a crossroads now.
A positive configuration on the RSI momentum indicator has been questioned by a move to a five-week low under 50. If this rally does begin to peter out today, then 1.6228 could come under pressure once more. The reaction to the ECB meeting tomorrow will be a key test too. Any hint of the Governing Council reining in its hawkish bias could see EUR slide and this would test 1.6228. A close below would open pressure towards the 1.5844/1.5849 support band.
Looking at GBP/AUD we see an unwind to build good near to medium-term support around 1.8930/1.9035. Technical analysis shows that this has helped to unwind the RSI towards 50 again, a level around where previous corrections have tended to build support before rallying once more. This is an important support. A move below the low at 1.8850 would confirm that the AUD is strengthening once more and a retreat towards the key support zone around 1.8500/1.8590 could be seen.
The initial rebound this morning has just eased back slightly, but a resumption of AUD weakness cannot be ruled out. A close above 1.9137 would suggest that there is a renewed appetite to buy the pair.
