Australia's central bank sees core inflation stuck above target out past mid-2026

The Reserve Bank of Australia (RBA) has significantly revised its inflation outlook, now projecting core inflation to remain above its 2-3% target band until mid-2026, a substantial upward adjustment driven by stronger consumer demand, rising house prices, and a tight labor market. This persistent inflationary pressure, with underlying inflation expected to accelerate to 3.2% by year-end, severely limits the scope for further interest rate cuts, as markets have already priced out significant easing. Despite a slight easing in the labor market, the RBA anticipates the jobless rate holding steady at 4.4% and economic growth remaining around 2%.

Analysis

The Reserve Bank of Australia (RBA) has significantly revised its inflation forecasts, now expecting core inflation to remain above its 2-3% target band until mid-2026, a substantial upward adjustment from previous projections. Underlying inflation is anticipated to accelerate to 3.2% by year-end, up from a prior forecast of 2.6%, with headline inflation peaking at 3.7% by mid-next year. This persistent inflationary pressure, driven by robust consumer demand and rising house prices, has led the RBA to maintain its cash rate at 3.60%.

The RBA attributes this sticky inflation to stronger economic growth, a tight labor market with the jobless rate expected to hold steady at 4.4%, and a sharp increase in home building growth to 4.8% annually. These factors suggest less economic capacity than previously thought, pushing policy closer to neutral estimates. Consequently, the RBA sees limited scope for further interest rate cuts, with market expectations having shifted to price out significant easing.

Key Decisions for Investors

• Investors should adjust expectations for RBA rate cuts, anticipating a prolonged period of higher rates given the hawkish stance and revised inflation outlook.
• Consider implications for sectors sensitive to interest rates and consumer spending, such as real estate and retail, which may face headwinds from sustained higher rates despite strong demand.
• Evaluate strategies for inflation hedging, as core inflation is projected to remain elevated for an extended period, impacting real returns on fixed-income assets.