The Reserve Bank has lifted its key interest rate by 0.25% to 4.5% and warned that it will now target maintaining inflation at its target rate of 2% to 3% “over time.”

That could mean more interest rate rises than expected by investors, the market and homeowners.

It was the six rate in the current sequence of tightening, and the third in a row this year, just as there were three in a row in October through December last year.

For the first time in months the central bank has made mention of the inflation target rate of 2%-3% “over time”

That clearly leaves the bank room to lift rates in coming months should it see the need to as it watches inflation more closely.

Inflation now has clearly replaced growth and jobs as the number one priority; rates are back to where it believes they are “average”.

The bank says economic growth will be higher than previously thought thanks to the resources boom, meaning in turn more potential for higher inflation.

It said that growth would happen, despite the diminishing “effects of earlier expansionary policy measures.”

We have seen that in the slowdown in March quarter and some April sales figures reported by the likes of Coles, Westfield, fantastic Furniture, Bunnings, Woolworths, Harvey Norman and Clive Peters.

In yesterday’s statement it said that seemed to be the case:

“With the risk of serious economic contraction in Australia having passed some time ago, the Board has been adjusting the cash rate towards levels that would be consistent with interest rates to borrowers being close to the average experience over the past decade or more.

“The Board expects that, as a result of today’s decision, rates for most borrowers will be around average levels. This represents a significant adjustment from the very expansionary settings reached a year ago.

“The Board will continue to assess prospects for demand and inflation, and set monetary policy as needed to achieve an average inflation rate of 2–3 per cent over time.”

Last week’s higher than expected Consumer Price Index outcome for the March quarter has had an impact at the central bank, which warned that inflation will now be close to 3%” over the coming year”.

It is a signal that the bank no longer will worry about the broader economy, but on controlling inflation out into 2012.

“Recent data on inflation confirm that it has declined from its peak in 2008, helped by a noticeable slowing in private-sector labour costs during 2009, the rise in the exchange rate and the earlier period of slower growth in demand.

“In both underlying and CPI terms, inflation over the most recent 12 months was around 3 per cent.

“Nonetheless, the extent of decline from here may not be quite as much as earlier forecast and inflation now appears likely to be in the upper half of the target zone over the coming year.”

And the continuing surge in house prices, especially at the more costly upper end, as we saw with yesterday’s ABS house price index surprise growth of more than 5% in the quarter and 20% over the year to March drew commentary:

“Credit outstanding for housing has been expanding at a solid pace. New loan approvals for housing have moderated over recent months as interest rates have risen and the impact of large grants to first-home buyers has tailed off. Nonetheless, at this point the market for established dwellings is still characterised by considerable buoyancy, with prices continuing to increase over recent months.”

The driver for this, the surge in commodity prices and our terms of trade: “Australia’s terms of trade are rising by more than earlier expected, and this year will probably regain the peak seen in 2008. This will add to incomes and foster a build-up in investment in the resources sector. Under these conditions, output growth over the year ahead is likely to exceed that seen last year, even though the effects of earlier expansionary policy measures will be diminishing.”

With that rise in income comes inflationary pressures and that will bring more rate rises.

Peter Fray

Get your first 12 weeks of Crikey for $12.

Without subscribers, Crikey can’t do what it does. Fortunately, our support base is growing.

Every day, Crikey aims to bring new and challenging insights into politics, business, national affairs, media and society. We lift up the rocks that other news media largely ignore. Without your support, more of those rocks – and the secrets beneath them — will remain lodged in the dirt.

Join today and get your first 12 weeks of Crikey for just $12.

 

Peter Fray
Editor-in-chief of Crikey

JOIN NOW