RBA Minutes: 4 October 2022 25bps hike

The RBA has published its Minutes of the 4 October 2022 Monetary Policy Meeting where it raised the cash rate by 25bps.  

“The arguments for a 25 basis point increase rested on the risks to global and domestic growth, and the potential for inflation to subside quickly.”

Considerations for monetary policy

In considering the policy decision, members noted that inflation in Australia was too high, as was the case in most countries. Global factors explained much of the high inflation, but strong domestic demand relative to the ability of the economy to meet that demand was also playing a role.

A further increase in inflation was expected over the months ahead. Inflation was then expected to decline towards the 2–3 per cent range, reflecting the ongoing resolution of global supply-side problems, recent declines in some commodity prices and the effect of rising interest rates. Medium-term inflation expectations remained well anchored and members emphasised the importance of this remaining the case. The Bank’s central forecast was for CPI inflation to be around 7¾ per cent over 2022, a little above 4 per cent over 2023 and around 3 per cent over 2024. Members noted that a full set of updated forecasts will be published in November following the release of the September quarter CPI.

Members discussed the continued solid growth of the Australian economy and noted that national income was being boosted by a record level of the terms of trade. The labour market was very tight and many firms were having difficulty hiring workers. The unemployment rate in August was 3.5 per cent, around the lowest rate in almost 50 years. Job vacancies and job advertisements were both at very high levels, suggesting a further decline in the unemployment rate over the months ahead. Beyond that, some increase in the unemployment rate was expected as economic growth slows.

Wages growth had continued to pick up from the low rates of recent years, although it remained lower than in other advanced economies, where inflation was also higher. Many firms were seeking to raise their headcount, and the increased difficulty finding workers meant that this strong labour demand was likely to result in a further lift in wages growth in coming months. The Board will continue to pay close attention to both the evolution of labour costs and the price-setting behaviour of firms in the period ahead.

Members agreed that a further increase in the cash rate was necessary to achieve a more sustainable balance of demand and supply in the Australian economy. Price stability is a prerequisite for a strong economy and a sustained period of full employment. Given this, the Board’s priority is to return inflation to the 2–3 per cent range over time while keeping the economy on an even keel. Members saw the path to achieving this balance as a narrow one clouded in uncertainty.

Members carefully considered two options for the size of the increase in the cash rate: continuing with the 50 basis point increases of the preceding four meetings; or announcing a smaller 25 basis point increase.

The arguments for continuing with an increase of 50 basis points stemmed from the inflationary environment and risks to inflation expectations. Inflation was high, broadly based and expected to increase further. Inflationary pressures had earlier proven more persistent than expected and there were upside risks to inflation from the labour market, rents and energy costs. While wages growth had increased more rapidly in other economies where labour supply had been more adversely affected by the pandemic, Australia could yet have the same experience given the tightness of the labour market.

If the Board were to reduce the size of the rate increase, it would be the first to do so among advanced economies. This might in turn prompt an unhelpful reaction in inflation expectations and financial markets, if the community came to question the Board’s resolve to reduce inflation. Ultimately, if upside risks to inflation were to materialise, or the credibility of the path to reduce inflation came into question, it would be costly to re-establish low inflation.

In this context, members also noted that the cash rate was not at an especially high level. Consumption had so far proven resilient to the increase in interest rates, supported by strong labour market conditions and the large financial buffers that many households had built up during the pandemic.

The arguments for a 25 basis point increase rested on the risks to global and domestic growth, and the potential for inflation to subside quickly. The cash rate had risen by a significant amount in a short period of time. While consumption had so far held up, monetary policy operated with a lag and there was a risk that household spending might adjust by more than expected. Higher interest rates, alongside higher inflation, were putting pressure on household budgets and consumer confidence had fallen. The full effects of higher interest rates were yet to be felt in mortgage payments and the increases in the cash rate were close to the interest rate buffer applied when many current borrowers took out their loans. The tightening of monetary policy was having a clear effect in the housing market, where prices had declined after earlier large increases, and the demand for housing loans had also fallen. Previous episodes of lower housing prices and turnover had seen a large effect on consumer spending, in part through the wealth channel of transmission.

With regard to inflationary pressures, members noted that wages growth had not reached levels that would be inconsistent with the inflation target. Moreover, some further rise in wages growth would not necessarily be cause for concern, given the flexible and medium-term nature of the inflation target, so long as inflation expectations remained well anchored. Institutional features of the Australian labour market also made a sharp rise in wages less likely than in other economies, which would help smooth the cycle in wages growth until some of the tightness of the labour market lessened.

External inflationary pressures might ease quickly given that the global outlook had deteriorated. Commodity prices had generally declined and supply chain pressures had begun to ease. Increases in policy rates in advanced economies were likely to entail a period of significantly lower output growth, which would be important for reducing global inflationary pressures.

Finally, members noted that, in an uncertain environment, there was an argument to slow the adjustment of policy for a time to assess the effects of the significant increases in interest rates to date and the evolving economic outlook. Drawing out policy adjustments would also help to keep public attention focused for a longer period on the Board’s resolve to return inflation to target. While some other central banks had been increasing policy by larger increments, policymaking bodies in these central banks met less frequently than the Reserve Bank Board.

Members acknowledged that the arguments were finely balanced. They concluded, though, that the case to increase the cash rate by 25 basis points at the present meeting was the stronger one. A smaller increase than that agreed at preceding meetings was warranted given that the cash rate had been increased substantially in a short period of time and the full effect of that increase lay ahead. Members also recognised the benefits of a smaller increase while the incoming data on both the global and domestic economy were assessed. At the same time, the Board agreed on the importance of returning inflation to target and the need to establish a more sustainable balance of demand and supply in the Australian economy. This was likely to require further increases in interest rates over the period ahead.

The Board will continue to monitor the global economy, household spending and wage- and price-setting behaviour closely. The size and timing of future interest rate increases will continue to be determined by the incoming data and the Board’s assessment of the outlook for inflation and the labour market. The Board remains resolute in its determination to return inflation to target and will do what is necessary to achieve that outcome.

The decision

The Board decided to increase the cash rate target by 25 basis points to 2.60 per cent. It also increased the interest rate on Exchange Settlement balances by 25 basis points to 2.50 per cent.

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