The market thinks rates are about to go up because of inflation. The market could be wrong
The latest Australian inflation figures showing strong prices growth in the past six months have once again put interest rate rises into the frame. A rate rise during a May election campaign is raised as a possibility, but the Reserve Bank might be a lot less willing to move than speculators believe.
This year, inflation has been all the economic rage. In America, questions about it led to US president Biden referring to a Fox News journalist as a “dumb son of a bitch” while here in Australia we are at a point where, if the market is to be believed, a rate rise could occur by May.
Tuesday’s consumer price index figures showed prices grew by 1.3% in the last three months of 2021, and 3.5% through the whole year.
Underlying inflation – which the Reserve Bank is more concerned about when it comes to setting interest rates – at 2.6% was nicely within the RBA’s target band of 2%-3%:
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As a result, the market now expects the Reserve Bank to raise the cash rate to 0.25% by May and up to 1% by the end of the year:
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But whether the Reserve Bank will actually increase rates is something a bit more complicated than just hoping money market speculators have got it right.
Mostly it comes down to whether inflation needs to be tempered, and whether raising interest rates will do anything to temper that inflation.
You can see why economists around the world are rather fixated on inflation at the moment. In the US prices rose in 2021 by 6.7% – and US prices often lead the rest of the world, including Australia:
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A key reason is items such as oil.
Petrol prices were a major contributor to overall inflation. Since
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