$A hits four-month high as Fed rate cut in sight
The Australian dollar hit a four-month high after a more cautious tone from US Federal Reserve chairman Jerome Powell on higher borrowing costs bolstered rate cut bets, paving the way for the Reserve Bank to follow suit.
The currency touched US66.90¢, the highest since August 1, extending November’s 4.2 per cent jump, on speculation the RBA will keep rates higher for longer than the Fed. It followed a 10 basis point drop in the US Treasury 2-year yield, which reflects interest rate expectations, to 4.5 per cent after touching the lowest level since June.
The Fed chief said on Friday that it was premature to conclude with confidence that the central bank had done enough to tame inflation. He also noted that policy was “well into restrictive territory” and that the risks of “under- and over-tightening were becoming balanced”.
Deutsche Bank’s Phil O’Donaghoe still expects the RBA to lift rates on Tuesday. Louie Douvis
The comments reinforced expectations the next rate move in the world’s largest economy would be lower. The market is pricing in a three-in-four chance of a Fed rate cut in March, up from 43 per cent on Thursday.
“Our expectations that the Fed will commence an easing cycle in Q3 2024 increases the likelihood the RBA eases late that year,” said Brian Martin, head of global economics at ANZ, before cautioning that a US rate cut was not “an automatic” trigger for the RBA because domestic conditions needed to be conducive.
Even so, the economist stressed that a Fed easing would help set the conditions for the RBA to also cut rates, “particularly given the synchronous nature of the current global economic cycle”.
Cloudy rate outlook
The US 10-year return retreated 9 basis points to 4.2 per cent and briefly fell on Friday to the lowest level in three months, dragging Australian bond yields lower. The three-year rate, which is sensitive to the cash rate, eased to 4 per cent, having shed 46 basis points in November. The 10-year benchmark fell to 4.5 per cent, a long way from 5 per cent touched on November 1.
Bond traders are pricing in a 97 per cent chance the RBA will hold the cash rate at 4.35 per cent on Tuesday which will be the last policy meeting until February. Beyond next week, the outlook is cloudier.
Investors ascribe a 56 per cent chance the RBA will start reducing the cash rate by August. Last week, they had implied a 68 per chance of an increase to 4.6 per cent.
Gareth Aird, head of Australian economics at Commonwealth Bank, said November’s data did “not support the case for further policy tightening in December” and that recent tough talk from governor Michele Bullock on inflation was to justify the last rate increase.
“The governor is trying to ‘jawbone’ to the household sector to elicit a greater behavioural response,” he said.
Deutsche Bank’s Phil O’Donaghoe still expects the RBA to hike the cash to 4.6 per cent on Tuesday. After leaving the cash rate on hold for four months, the central bank resumed its tightening cycle in November with a quarter of a point lift.
Troubling details
Since then, consumer price inflation in October slowed more-than-expected with an annual pace of 4.9 per cent, from 5.6 per cent in September, still well above the RBA’s 2 per cent to 3 per cent target range.
Deutsche Bank’s chief economist in Australia noted “troubling” details in the report, including that a decline in rents was only because of government subsidies.
More importantly, he said, core inflation – the RBA’s favoured measure – would need to drop by a full percentage point over November and December to meet the RBA’s forecast for the fourth quarter, which “looks unlikely”.
“If we are wrong about a December hike, we think our error will simply be a question of timing,” said Mr O’Donaghoe. “Any delay beyond December only increases the chance that RBA needs to hike more than once in the new year, and with that would come a delay to the timing of any cuts.”
Saxo market strategist Charu Chanana said the RBA could potentially mirror what its New Zealand counterpart did last week when it revealed it had discussed the “possibility of the need for increases” after leaving its cash rate on hold. A “hawkish hold” could send the $A higher.
RBC strategist Rob Thompson said he expected the RBA to wait until February to raise the cash rate one final time this cycle after January’s quarterly inflation report. He also pushed back rate cuts to 2025, from 2024 previously.
Meanwhile, the RBA’s so-called shadow board of experts gave a 50 per cent probability that the cash rate should remain at 4.35 per cent and a 49 per cent probability of an increase.
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