For the first time since November 2010, the RBA has raised its official cash rate - from 0.1% taking it to 0.35%, joining central banks in the US, Canada, the UK, NZ, Korea, Norway and Sweden in raising rates – some of whom have started to hike more aggressively with 0.5% moves.
Only a few months ago the RBA conceded a rate hike was “plausible” this year, but have rushed their decision due to the strong jobs market sitting at 4% unemployment and inflation at 5.1%.
It’s true that the rate hike may add to the cost pressures facing households with a mortgage, however tightening monetary policy by raising the cost of borrowing (or money) in order to slow demand growth relative to supply in the economy is one of the few levers policy makers have in the short-term to reduce inflation.
In order to bear down on inflation expectations, we do expect another increase in the cash rate around June (probably of 0.25% but it could be up to 0.4%), a rise in the cash rate to 1.5% by year end and to 2% next year, which, all things being equal, may translate to an increase in variable mortgage rates of up to 2%. While this will cut into household spending power, it should be manageable for most borrowers.
Remember that the RBA will only raise rates as far as necessary to cool inflation. It knows that high household debt levels compared to the past means households are more sensitive to higher rates and therefore it won’t need to raise rates as much as in the past to cool inflation. After a few initial hikes, it will likely pause to see what happens.