Fed's rate hike exacerbates Australia's outlook

The Federal Reserve has lifted its interest rate for the first time in more than three years, contributing to the ongoing adversity the global economy is facing, especially in Australia.

The Fed has called a rate hike overnight, increasing the interest rate by 25 basis points from 3.75% to 4%.

Commenting, VanEck head of investments and capital markets Russel Chesler said the move was "widely anticipated", as the renewed surge in oil prices continue to intensify inflation across the global economy.

It comes as inflation in the US remains well above the central bank's target rate of 2%, Chesler said, noting oil price surges is also threatening the global economy.

"The US economy also remains resilient. August employment increased by 162,000, unemployment is around 4.1%, and consumer and business spending remains reasonably strong," he said.

"This data gives the Fed scope to tighten without immediately threatening the labour market. However the more pressing question is whether one rate hike is enough to bring inflation down and if the Fed will need to enter a tightening cycle."

Principal Asset Management market strategist Christian Floro agreed, stating the rate increase stemmed from Federal Reserve chair Kevin Warsh's growing concerns on taming inflation.

He is now projecting another hike to come in December.

"Underpinned by a strengthening economy, a stable labour market, and an upward reassessment of inflationary risks in their updated projections, the unanimous decision this month suggests additional tightening may follow before year-end," Floro said.

"Our base case calls for one more 25-basis-point rate hike in December."

He said the Fed has begun its hiking cycle, and the debate now shifts to how many are coming as a one-and-done move remains "highly unlikely".

"With markets already pricing multiple increases, policymakers will probably need to deliver at least one more hike to safeguard credibility," Floro said.

"Absent any significant data surprises, an October hike remains unlikely given the upcoming US midterm elections.

"That said, with inflation not projected to return to target until 2029 under the Fed's current path, the case for even more tightening remains compelling. If signs of second-round inflationary effects begin to materialise, or there is a renewed and significant escalation in the Iran war that further pushes up energy prices, then additional rate hikes are possible in 2027."

Exacerbating outlook in Australia

Domestically, the trimmed mean inflation (3.6%), a measure utilised by the Reserve Bank of Australia (RBA), remains outside of the RBA's targeted range (2-3%), with most of the Australian market (77%) sharing the consensus of a rate increase at the September meeting, Chesler added.

Also siding with the market, he said the RBA will have "no other option" but to increase the cash rate by 25 basis points, bringing it to 4.7%.

"The knock-on effects of higher oil prices flowing through to logistics, manufacturing and even food prices pose a significant risk of pushing the trimmed mean number higher, and a second rate increase may also be on the cards for the RBA still this year," Chesler said.

"Australia is still battling with services inflation which remains sticky. The minimum wage increase of 6% and the award wage increase of 4.75% may well filter into increases received by higher income earners during the year.

"Public sector wage growth for the year to 30 June 2026 was also relatively high at 3.4% ahead of the private sector at 3.1%. The GDP print of 0.4% for the second quarter and 2.1% annually suggests the economy is slowing but is still stronger than expected.

"These higher unit labour costs will be of concern to the RBA."