The RBA will almost certainly leave the official cash rate unchanged at 1.5% at its monthly board meeting this Tuesday and it will probably continue to signal that there is no risk of a near-term rate hike. Actually, as progress in raising inflation to the 2% to 3% target range is likely to be slow, interest rates will probably remain on hold throughout 2018 and even into early 2019.
While last September financial markets had priced in two RBA rate hikes in 2018, the market is now only pricing in just over a 50% chance of one rate hike by the end of this year. If we don’t see the gradual rise in inflation, markets will have to pare back these expectations even further.
However, expectations for US rate hikes continue to edge higher with the market now fully pricing three rate hikes for 2018 and starting to question whether there will be four. When the US cash rate rises this month, the US cash rate will be above Australia’s cash rate – which doesn’t happen that often (refer chart below).
What’s unusual at the moment is that the complete erosion of Australia’s traditional interest rate premium to the US hasn’t significantly weakened the Australian dollar. It seems that the interest rate differential has less influence on the exchange rate these days.