RBA on hold but keeps door open for more hikes

The Reserve Bank of Australia (RBA) determined to keep interest rates on hold at 4.35% at the August meeting but left the door open to further hikes down the road.

The central bank felt the economy has been broadly evolving as it expected, with three prior rate rises having helped tighten financial conditions.

The RBA noted "momentum in the housing market has shifted" with falling house prices.

However, the RBA said there continues to be "heightened uncertainties" around the outlook for domestic economic activity and inflation.

"Resolution of the Middle East conflict remains uncertain, and there are scenarios where inflation is higher and activity lower than forecast," it said.

"A period of prolonged uncertainty may also cause growth to be lower overseas and in Australia. So far, growth in Australia's major trading partners has been stronger than expected, as the boost from AI-related investment has outweighed the adverse effects of the Middle East conflict. In Australia, historically weak productivity growth continues to constrain potential growth."

Betashares chief economist David Bassanese said the RBA likely feels the domestic capacity pressures on inflation are easing, albeit remain too firm.

"Should economic growth continue to ease as expected, these capacity pressures should abate," Bassanese said.

"At the same time, higher energy prices arising from the Iran war are adding to short-run inflationary pressure, though the 'impact so far has been less than expected.'  It's also hard to tell how long and protracted the war will turn out to be.

"In short, it now seems likely the Reserve Bank can remain on hold this year provided it is not forced to revise up its inflation forecasts again - due, for example, to stronger than anticipated domestic inflation in areas such as housing and market services. Indeed, the RBA has warned that it stands ready to raise the cash rate further 'if upside risks [to its inflation outlook] materialise'."

Bassanese said his base case remains that the RBA will be on hold for the remainder of the year with a rate cut "pencilled in" for the first half of 2027.

KPMG Australia chief economist Brendan Rynne said the RBA "finds itself between a rock and a hard place", saying another rate hike is on the cards.

"Bringing inflation back to 2.5% is not going to happen overnight. The process is likely to be gradual and may require a further tightening in policy if demand does not slow sufficiently and productivity growth fails to improve," Rynne said.

"[The RBA] is trying to bring inflation back to target without causing unnecessary damage to the labour market, but ultimately its primary responsibility is price stability. On balance, we would not be surprised to see another rate increase in the coming months if inflation and labour market data remain stubbornly strong."