RBA’s ‘higher for longer’ interest rate stance a challenge for inflation target

The interest rate outlook has changed remarkably in a short space of time, with a new ‘higher for longer’ mantra emerging following the release of higher than expected inflation figures for the March quarter, according to Tim Lawless, Research Director at CoreLogic Asia Pacific.

The Reserve Bank of Australia (RBA) took a slightly dovish tilt at their March meeting, noting inflation was moderating in line with their forecasts, but this newly adopted neutral stance didn’t last long, with the RBA taking a more cautionary tone at their May meeting as the inflation trajectory rose above the forecast path.

“Although there has been significant progress on reducing inflation, with the annual headline rate dropping from 7.8% at the end of 2022 to 3.6% over the 12 months to March 2024, the ‘last mile’ of getting inflation back to the target range of 2-3% is shaping up to be a challenge, especially in the ‘stickier’ areas of service and non-discretionary inflation like health and child care, insurance, housing and education,” Lawless said.

The pullback from consumer spending is clear in other areas of the economy and inflation outcomes, with discretionary inflation rising by only half a percent in the March quarter compared with a 1.3% jump in non-discretionary inflation. Less consumption is flowing through to softer economic outcomes more broadly, with economic activity declining on a per capita basis over the final three quarters of 2023, retail spending virtually flat over the past six months, and consumer sentiment remaining close to recessionary lows.

Despite high interest rates and ongoing cost of living pressures, housing prices have continued to lift, moving through a 15th straight month of growth in April, with national home values up 8.7% over the past 12 months, adding approximately $62,400 to the median dwelling value.

“The upwards pressure on housing prices may seem surprising at face value, given the high cost of debt, stretched affordability and low sentiment, but housing remains in short supply while demonstrated demand is continuing to track higher than a year ago and above the decade average for this time of the year,” Lawless said.

The May RBA meeting marked the two-year anniversary of the rate hiking cycle, with national dwelling values up 2.8% since interest rates started to rise two years ago, compared to a 31.7% surge in the prior two years.

Although the pace of growth in dwelling values has slowed since the middle of last year, the outlook for values generally remains positive until the supply/demand dynamic rebalances, with dwelling approvals remaining well below average and other hurdles to delivering a supply response including tight margin pressures for builders, skilled labour and trade shortages, rising labour costs and high funding costs.