RBA cuts interest rates to two-year low

The Reserve Bank of Australia (RBA) has overlooked a surprising job surge in April that may have raised inflation fears, cutting the official cash rate by 0.25 per cent.

The new 3.85 per cent cash rate marks the first time it has fallen below 4 per cent since May 2023.

That was a very different time economically. Headline inflation was then at 7 per cent and underlying inflation was above 6 per cent. Headline inflation has now fallen to 2.4 per cent, while the RBA’s preferred measure, underlying inflation, is at 2.9 per cent.

Given the taming of inflation and its retreat to within the RBA’s preferred range of 2 to 3 per cent, finance markets had been broadly expecting the central bank’s cut on Tuesday (20 May).

The market priced in two more rate cuts by the end of the year.

A 0.25 per cent rate cut, if passed on fully by the banks, would result in the median mortgage-holder with a $600,000 debt having to pay about $90 less per month in interest repayments.

Among the plethora of economic indicators, it is inflation that is mostly closely watched by the RBA. With annual trimmed mean inflation now below 3 per cent for the first time since 2021, the RBA was willing to move rates lower.

In its Monetary Policy Decision, said the upside risks to inflation have diminished.

“With inflation expected to remain around target, the Board therefore judged that an easing in monetary policy at this meeting was appropriate.”

Effectively dismissing arguments that it should have delivered a larger cut, the RBA Board statement said there were still international factors that could have major economic ramifications for Australia.

“The Board remains cautious about the outlook, particularly given the heightened level of uncertainty about both aggregate demand and supply.

“It considered a severe downside scenario and noted that monetary policy is well placed to respond decisively to international developments if they were to have material implications for activity and inflation in Australia.”

Oliver Hume Chief Economist, Matt Bell, said the turmoil abroad kicked off by Donald Trump’s tariffs, announced in April, cemented the likelihood of a rate cut.

“Even if the originally announced polices are only partially implemented, as now seems likely, they are probably disinflationary for the world outside the US. 

“For the RBA, this obviously trumped - pun intended - the risk that a still-tight labour market would keep pressure on domestic inflation.”

“As late as 28 April, the market still had another three or four more 25bps cuts fully priced in for 2025 (for a total of 6).

“Since then, we’ve had a slightly disappointing March CPI, a stronger than expected April Labour Force and slightly stronger than expected March quarter wages growth, as well as some deals and backtracking of the initial tariff announcements.”

Rate cut’s impact on property prices

The second interest rate cut in three months, after a lengthy static period, comes as the property market has proven remarkably resilient.

Over the past few years property prices have continued to rise despite an economic shutdown during the pandemic, persistent high inflation, international conflicts and geopolitical tensions, trade wars and erratic US administration.

Interest rate cuts are expected to add further impetus to real estate markets around the country.

Domain Chief of Research and Economics, Dr Nicola Powell, said an increase in auctions, clearance rates and enquiries could be expected.

“With these cuts and borrowing power improving, we’re likely to see house prices start to rise, especially in Sydney and Melbourne.

“For first home buyers, this could be a double-edged sword - while the rate cut helps with affordability, it could also fuel more competition in what’s already a very tough market.

“The expanded First Home Buyer scheme will also add to this, particularly in the unit market, where we could see prices push higher and this is also likely to affect those looking at properties in the lower end of the market, with more buyers entering the fray.

“Overall, we’ll need to stay mindful of the long-term effects, especially when it comes to affordability. The challenge for policymakers will be finding the sweet spot between boosting growth and making sure housing doesn’t become even more out of reach for first home buyers.”

Major banks pass on full rate cut

Helen Avis, Director of Finance, Specialist Mortgage, said borrowers who have paid down their loan while property prices have risen will be better placed to renegotiate for an even better rates deal.

“Rates may be dropping but you still have to make sure you are getting a good deal.”

She added that further property price pressure could be expected.

“With this being the second reduction this year, it will give people confidence to act, to buy while rates are on a downward trend.

“The reduction will also mean slightly higher borrowing capacity.”

The big four banks were quick to announce they would pass on the full rate cut. CBA, ANZ and NAB will cut home loan rates from 30 May, with Westpac following on 3 June.

Treasurer Jim Chalmers said the Tuesday rate cut does not mean the job is finished when it comes to the cost of living but it will help millions of Australians with a mortgage.”

“It reflects the substantial progress we've made on inflation but also that we have not had to pay for that progress with substantially higher unemployment or a substantially slower economy.

“The soft landing in our economy is especially important because of the increased global economic uncertainty we're seeing around the world.”

The RBA Board’s next interest rate deliberation will be announced on 8 July.

Dr Isaac Gross, Department of Economics, Monash Business School, said the RBA’s cut to interest rates by 25 basis points reflects the softer outlook for inflation, as the cost-of-living crisis has begun to ease. 

“We currently expect two further cuts over the remainder of the year, however, this outlook is highly contingent on two major factors: the continued moderation of inflation and the potential impact of Donald Trump’s trade policy. 

“Should Trump re-commit to radically higher tariffs, we would almost certainly see a large reduction in interest rates.

“On the other hand, the chance for further cuts could evaporate if inflation stays stubbornly high, which remains a real risk given the strength of recent job numbers and wage growth data.”