Australian Dollar Falls on 'Dovish' RBA Hike

Above: File image of RBA Governor Lowe, source: ABC. Image Pound Sterling Live.

The Reserve Bank of Australia (RBA) raised interest rates by 50 basis points to 1.85%, as expected, but the Australian Dollar fell back on signs future hikes would be less aggressive.

The RBA has now delivered 175 basis points of hikes since it started the current cycle in May, its fastest pace of hikes since the early 1990s.

But it said future rate hikes were "not on a pre-set path" and that the economy would slow as a result of these hikes.

"50bps hike from RBA... but it's a dovish one. RBA acknowledge a 'soft landing' will be difficult. And that central bank reaction functions don't just have a beta of 1 to inflation (and 0 to growth). We're in the 2nd half of G10 CB hiking cycles. It'll be less aggressive," says Viraj Patel, Macro Strategist at Vanda Research.

The market clearly reached this conclusion as the Australian Dollar was lower across the board, it fell 0.80% against the Pound in the hours following the hike and nearly a percent against the U.S. Dollar.

The Pound to Australian Dollar exchange rate lifted to the middle of its post-March range at 1.7581, largely in line with our week-ahead forecast. The Australian Dollar to U.S. Dollar exchange rate fell to 0.6953.

The RBA has joined the other major central banks in abandoning so-called forward guidance aimed at providing a predictable outlook for policy action. Instead, it said it would react to incoming data.

"The size and timing of future interest rate increases will be guided by the incoming data and the Board's assessment of the outlook for inflation and the labour market," said RBA Governor Philip Lowe in a statement.

The RBA expects inflation to peak at some point in the coming weeks; "inflation is expected to peak later this year," said Lowe.

A looming peak in inflation combined with the RBA's commitment to react suggests a slowdown in the pace of hikes looms.

"The accompanying policy statement has been viewed as less hawkish and encouraged market participants to pare back expectations for further RBA rate hikes in the year ahead," says Lee Hardman, Currency Analyst at MUFG Bank.

Alongside a softer Aussie Dollar, money markets have reduced their rate hike expectations by 10bp for the next year.

"The paring back of RBA rate hike expectations has reinforced the correction lower for the Aussie," says Hardman.

The RBA also raised its peak inflation forecasts for 2022 to 7.75% up from 6% three months ago.

Inflation is expected to fall back towards 4.0% in 2023 and 3.0% in 2024.

Medium-term GDP growth forecasts show a downgrade from 3.25% this year to 1.75% in the following years.

"Overall, the developments do not change our bearish view on the Aussie. We expect it to weaken as global growth fears continue to intensify in the coming months," says Hardman.