Australian inflation cools in May, strengthening rate cut expectations.

Australian Inflation Continues to Slow,How the foreign exchange market works Rate Cut Expectations Reach New Highs

Data released by the Australian Bureau of Statistics on June 26 shows that the Consumer Price Index (CPI) rose 2.1% year-on-year in May, which is lower than the economists' forecast of 2.3%, and is closer to the lower end of the Reserve Bank of Australia's target range of 2%-3%. The annual inflation rate has remained within the policy target range for the tenth consecutive month, indicating that inflationary pressures are continuing to weaken.

The Reserve Bank of Australia's preferred core inflation measure, the trimmed mean that excludes food and energy, also showed a moderate trend. This indicator rose by 2.4% year-on-year in May, noticeably down from 2.8% in the previous month. This is the lowest level since November 2021, providing policymakers with more room for easing.

Michelle Marquardt, head of price statistics at the Bureau, noted: "This is the lowest core inflation level in nearly two and a half years, indicating that the overall inflation environment is gradually returning to stability."

Policy Rate Outlook Clear, Rate Cut Probability Nears 90%

Following the release of the data, the market reacted swiftly. The yield on the policy-sensitive 3-year Australian government bonds dipped slightly, reflecting increased investor expectations for a drop in short-term interest rates. According to interest rate market pricing, traders are currently betting on a nearly 90% chance of a rate cut by the Reserve Bank at its July meeting, up from around 80% earlier.

The Reserve Bank of Australia will hold its next monetary policy meeting from July 7 to 8, where a potential rate cut will be a focal point. Analysts generally believe that if there are no unexpected rebounds in inflation or employment in the coming weeks, the Reserve Bank may prefer to initiate an easing cycle to address domestic economic weakness and a global demand slowdown.

Government Subsidies Curb Prices, Core Downward Trend Likely to Continue

The current slowing trend in Australia’s overall inflation is partly supported by government policies. A range of public policies, including energy subsidies, childcare rebates, and medication price controls, have recently had a substantial downward effect on the CPI. The Reserve Bank has also emphasized that it will focus on the "core inflation excluding policy effects" to determine if price trends are sustainable.

However, despite favorable inflation data, Australia’s economy still faces some structural challenges, including increased mortgage burdens, weak household spending, and sluggish exports, all of which amplify the motivation for the Reserve Bank to act sooner rather than later.

Inflation Moderate, But External Variables Pose Risks

Although the inflation data for May shows a clear improvement, global economic volatility and geopolitical risks may still pose uncertainties. If crude oil prices or the cost of imported goods rebound in the coming months, inflation could also rise temporarily.

Policymakers at the Reserve Bank need to strike a balance between guarding against "premature easing" and avoiding "policy lags." The market's focus will shift to the June employment data and the statements from the July meeting to assess whether the monetary policy direction is officially turning towards an easing cycle.

Risk Warning and Disclaimer

The market carries risks, and investment should be cautious. This article does not constitute personal investment advice and has not taken into account individual users' specific investment goals, financial situations, or needs. Users should consider whether any opinions, viewpoints, or conclusions in this article are suitable for their particular circumstances. Investing based on this is at one's own responsibility.

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