HomeContributorsFundamental AnalysisRBA Set to Remain on Hold as Trade Uncertainties Loom

RBA Set to Remain on Hold as Trade Uncertainties Loom

The Reserve Bank of Australia (RBA) will announce its rate decision on Tuesday, at 0430 GMT. With the Bank widely anticipated to take no action, the focus will probably turn to the statement accompanying the decision for fresh policy signals. Considering recent developments around global trade, the RBA has every reason to err on the side of caution, potentially reaffirming that any rate hike in Australia is still a long way off.

Not a lot has happened domestically in Australia since the Reserve Bank last met in early March. In terms of economic data, GDP for Q4 disappointed, but the nation’s trade balance returned to a surplus in January. Meanwhile, the unemployment rate ticked up in February, but that was probably owed to more people entering the labor market, as the labor force participation rose too. Thus, economic data alone suggest there is little need for the RBA to change its neutral tone upon completion of its meeting.

However, global developments have not been as benign. Following the latest announcement by China to impose retaliatory tariffs on the US, the risk of increased protectionism on a global scale has increased drastically. If such risks were to materialize, Australia would be among the most vulnerable economies, considering its reliance on commodity exports.

Taking a look at the minutes from the latest RBA gathering, one can hardly find any mentions to global trade risks. There was only a single sentence that said policymakers “observed that the risks to the global economy, and therefore the outlook for Australia, would rise if other countries also increased trade protection”. While that may not seem like much at first glance, what is important here is that officials did discuss the possibility of a trade war at that meeting – and that prospect has only become more realistic since then. Moreover, Australia’s large trade exposure to China represents an extra reason for policymakers to be wary of an escalation in tensions; if China takes an economic hit, so does Australia.

Overall, there appear to be more reasons for the RBA to err on the side of caution, as opposed to appearing optimistic. Policymakers could highlight the recent trade uncertainties and indirectly reaffirm that rates are likely to remain on hold for the foreseeable future; a view that markets share. Australia’s overnight index swaps now suggest a mere 23% probability for a 25bps rate hike by year-end, down from 60% back in early January.

Should policymakers for example indicate that further trade protection poses a downside risk to Australia’s terms of trade, then the probability for a rate hike this year could decline further and the Aussie could come under renewed selling pressure. In this case, aussie/dollar could head lower for a test of the 0.7640 zone, marked by the March 29 lows, with a downside violation of that hurdle likely to bring the 0.7550 area into play, identified by the troughs of November 29.

If on the other hand the overall policy message from the RBA is seen as one that increases the likelihood for a rate hike this year, that may lead to a sharp positive reaction in aussie/dollar, as it would likely come as a surprise. The pair could break above its latest highs at 0.7705, and aim for a test of the 0.7785 territory, defined by the March 22 tops. If buyers manage to overcome that hurdle too, resistance may be found near 0.7840, marked by March 6 highs.

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