RBA Interest Rate Decision: 25 bps hike expected, but brace for more surprises

• Interest rate in Australia is expected to rise by 25 bps to 4.35% in August.
• Reserve Bank of Australia could surprise for the fourth straight meeting.
• RBA policy decision and guidance to rock the Australian Dollar.

With the US Federal Reserve (Fed) and the European Central Bank (ECB) probably nearing the end of their tightening cycles, all eyes remain on the Reserve Bank of Australia (RBA) interest rate decision due to be announced this Tuesday.

The RBA is stuck between a rock and a hard place, as Australia’s labor market remains very tight while the country’s battle with inflation is finally showing results. The housing market is also on a notable recovery path, making Tuesday’s decision a close call for the central bank.   

Reserve Bank of Australia interest rate decision: All you need to know on Tuesday, August 1

• AUD/USD is consolidating gains above 0.6700, despite a broad rebound in the US Dollar, as the Australian Dollar capitalizes on China’s stimulus optimism. 
• US S&P 500 futures post small gains, helped by risk flows while the benchmark 10-year US Treasury bond yield stays shy of the 4.0% level.
• On Monday, China’s official Manufacturing and Non-Manufacturing PMIs for July came in mixed and reinforced expectations of further stimulus by the Chinese authorities to stimulate economic recovery.
• China’s National Bureau of Statistics (NBS) showed that the Manufacturing PMI rose to 49.3 from 49.0 in June vs. a forecast of 49.2. China’s Non-Manufacturing PMI dropped to 51.5 in the reported, compared with 53.2 seen in June.
• Last week, the Federal Reserve raised rates by the widely expected 25 basis points (bps) to a 22-year high of 5.25%-5.50% and left doors open for more tightening without committing to the timing of the next lift-off. 
• Powell refrained from providing any forward guidance, emphasizing a ‘data-dependent’ and ‘meeting-by-meeting’ approach.
• The RBA event will likely provide near-term direction in the AUD/USD pair heading into Friday’s all-important US employment data. The Australian central bank will publish its Statement on Monetary Policy Friday, including the updated macro forecasts. 

RBA interest rates expectations: How will it impact AUD/USD?

The Reserve Bank of Australia is seen raising the Official Cash Rate by 25 basis points (bps) from 4.10% to 4.35% following its August monetary policy meeting scheduled this Tuesday, with the policy announcement due at 04:30 GMT.

Speaking on "The Reserve Bank Review and Monetary Policy" at the Economic Society of Australia Business Lunch right after the July policy meeting, Reserve Bank of Australia (RBA) Governor Philip Lowe said, “Some further tightening of monetary policy may be required to ensure that inflation returns to target in a reasonable timeframe, but that will depend upon how the economy and inflation evolve.”

Since then, Australian data has come in mixed, with inflation slowing down while the labor and housing market continue to show robustness. Australia’s Consumer Prices Index (CPI) rose 0.8% in the June quarter, under forecasts of 1.0% and the smallest gain since the third quarter of 2021. The annual pace in core inflation slowed to 6.0%, from 6.6%. Meanwhile, the Unemployment Rate dropped to a fresh five-decade low of 3.5% in June and the number of employed people in Australia rose by 32.6K in June as compared to consensus estimates of 15K.

Markets brace for fireworks as the Bank has a tendency to offer surprises. In three of its last four policy announcements, the RBA has taken markets off guard. At its July meeting, the central bank unexpectedly kept rates steady at 4.10% after delivering two consecutive hawkish surprises by going for 25 bps rate hikes in May and June.

The Australian Dollar is poised for massive volatility on the RBA decision due to the wide divergence between market pricing and economists' expectations, which leaves room for yet another surprise. According to Refinitiv's RBAWATCH, markets see only a 22% probability of a quarter percentage point RBA hike in August but the latest Reuters poll showed a slight majority leaning in favor of such a rate increase.

Economists at Standard Chartered offered a sneak peek at what they expect from the RBA policy decision, stating that “we now expect the Reserve Bank of Australia (RBA) to hike further by a total of 50bps in the rest of this year. The latest Q2 CPI readings offer some room for the RBA to wait and see, in our view. We therefore now expect the central bank to hike by 25bps each in September and November; we had previously expected it to hike in August and September by the same amount.” 

Meanwhile, Dhwani Mehta, Asian Session Lead Analyst at FXStreet, notes key technicals to trade AUD/USD on the policy outcome. “AUD/USD has regained the critical resistance near 0.6700 in the lead-up to the RBA showdown. That level is the confluence of the horizontal 50 and 100-Daily Moving Averages (DMA). The 14-day Relative Strength Index (RSI), however, is sitting beneath the 50 level, keeping the bearish potential intact for Aussie sellers.”

“The next powerful upside barrier for AUD/USD is aligned at 0.6735, where the 21 and 200 DMAs coincide. A sustained break above the latter will trigger a fresh upswing toward 0.6800 and beyond. Conversely, failure to defend the two-week low of 0.6622 could reinforce selling interest, with a sell-off toward the 0.6550 psychological support inevitable,” Dhwani added.