Australian Dollar: Bumper Minimum Wage Hike is Hawkish says Crédit Agricole

• Wage boost bigger than expected
• Could stoke further inflationary pressures
• And be met by stronger RBA response
• In turn supporting AUD

Above: RBA Governor Lowe speaks to ABC, source: ABC. Image Pound Sterling Live.

Australia's Fair Work Commission surprised the market when it announced the minimum wage will be lifted $1.05 an hour from its $20.33 base from July 1, an increase of 5.2% to $21.38 an hour.

The Commission said the decision would affect more than 2.7 million workers, as well other other employees on enterprise agreements and other pay settings.

While the news of the rate hike did not have a direct impact on Australian Dollar price action analysts say it is nevertheless supportive of the currency on a medium-term basis.

The decision was surprising in that the consensus amongst economists was for a minimum wage hike in the 4.0-4.5% range.

Valentin Marinov, Head of G10 FX Strategy at Crédit Agricole says the development is inflationary and will therefore likely maintain pressure on the Reserve Bank of Australia (RBA) to pursue higher interest rates, which is on balance consistent with a stronger Australian Dollar.

The decision "will add to wage and inflation pressures in the coming quarters and reinforces the RBA’s hawkishness," says Marinov.

Australia's inflation rate reached 5.1% year-on-year in the quarter to March.

The pay adjustment news comes on the same day RBA Governor Philip Lowe continued his 'hawkish' rhetoric on the outlook for Australian interest rates.

In an interview with ABC the governor said the RBA will do what it takes to get inflation back into target and that it is reasonable to expect the RBA's cash rate to hit 2.50%, given he expected inflation to reach as high as 7.0% in 2022.

"With inflation being as high as it is, and with interest rates as low as they are, we thought it was important to take a decisive step to normalise monetary conditions, and we did that at the last meeting," said Lowe.

But money market pricing shows investors are geared for a more aggressive approach as they factor a cash rate in the region of 3.75-4.00%, presenting the prospect of some disappointment for Aussie Dollar bulls.

The Australian Dollar has outperformed many other major currencies of late following the RBA's June interest rate decision which was widely interpreted as signalling a hawkish turn in the RBA’s policy stance, leading financial markets to wager that Australia’s cash rate could top 3% later this year.

"The RBA cited the persistent strength in inflation as the main motivation for accelerated monetary tightening, and we think policymakers will follow through with two additional 50bp rate hikes in July and August," says economist Jonathan Petersen at Capital Economics.

Capital Economics anticipates further Australian Dollar strength as the RBA raises interest rates in order to keep as tight a lid on inflation as possible.

"The central bank’s rapid shift towards tightening policy aggressively (having lagged behind many other G10 central banks until recently) is probably one reason why the Aussie dollar has fared well against the US dollar relative to other G10 currencies today, and over the course of the year," said Petersen in the wake of the RBA's decision.

"We expect the Aussie dollar’s outperformance against most other G10 currencies to continue," he adds.

The Australian Dollar is one of the best performing major currencies of the past month, having only ceded ground to the U.S. Dollar. It is flat against the Euro over this time but is up 1.85% against the Pound and 4.80% against the Yen.

It is also one of 2022's outperformers, having gained against all the G10 majors apart from the Dollar and Canadian Dollar. Gains against Sterling stand at 6.80% for 2022 and against the Euro it is 4.0% higher.