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The Reserve Bank of Australia (RBA) will be "very carefully" watching how inflation evolves over summer, and it will lift interest rates aggressively in the new year if it thinks it needs to.
Key points:
- Inflation is now forecast to hit 8 per cent this year
- Unemployment will rise next year when the economy starts slowing
- The RBA is prepared to hike rates more aggressively if it thinks it's necessary
RBA governor Philip Lowe said he was very aware the bank had lifted the cash rate target quickly this year.
He said that is why the bank had started to slow down the pace of its rate increases in recent months, such as Tuesday's smaller 0.25 percentage point rise.
However, he said the bank is prepared to lift rates more aggressively again, if it needs to, because it does not want high inflation to become embedded in the economy.
"If we need to step up to larger increases again to secure the return of inflation to target, we will do that," Dr Lowe said.
"Similarly, if the situation requires us to hold steady for a while, we will do that.
"Given the uncertainties regarding the outlook, we will be watching very carefully how the economy and the inflation pressures evolve over the summer."
Inflation tipped to hit 8 per cent this year
Dr Lowe made the comments in prepared remarks at dinner with business leaders in Hobart on Tuesday evening.
He said members of the RBA board had discussed how high inflation was damaging for households and their savings, and how it could impair the functioning of economies.
"It is for these reasons that the Reserve Bank board will make sure that this episode of high inflation is only temporary," he told the business audience.
He said the RBA's central forecast, at this point in time, was for the unemployment rate to hold steady for a while before increasing a little next year as the economy slowed down.
He said the annual inflation rate was forecast to reach around 8 per cent later this year, before moderating next year and then taking "a couple of years" to return to the 2 to 3 per cent range.
But there would be problems along the way, he said.
"In the short term, the east coast floods are adding to the upwards pressure on food prices, and next year there are likely to be very large increases in the prices that households pay for gas and electricity," he said.
However, he said Australia was still faring much better than other countries, and we had a lot to be thankful for, and he was reminded of that when he visited Washington DC a couple of weeks ago.
"We live in peace and we enjoy a level of material prosperity that few other people in the world experience," he said.
"Our public services are of a generally high quality and our public finances are in better shape than those of many other countries.
"And for the first time in almost 50 years, it is possible to say that almost all Australians who want a job can find one.
"None of this is to deny that we face some pretty serious challenges, but as I listened to the finance ministers and central bank governors in Washington DC, I kept thinking I wouldn't want to trade our place for anybody else's," he said.
When will interest rates stop rising?
However, with the RBA's rate hike on Tuesday, the cash rate target is now sitting at 2.85 per cent.
It means the rate has been increased by 2.75 percentage points in seven months, which is the fastest cycle of rate hikes since the 1990s.
Beauty salon owner Linh Linh said she would like the rate increases to slow down so she has time to figure out what's happening to her finances.
Ms Linh told the ABC she owns two properties, one was her family home (bought in 2015), and another house from which she runs her business (bought in 2019).
She said the rate rises aren't only affecting her mortgage repayments. They're affecting her customers' willingness to spend money too.
"Everything has increased, so for me I actually experience that I need to pay double compared to the beginning of the year," Ms Linh said.
"So of course, I need to cut down on holiday travelling or shopping, so my client is the same – they minimise the time that they pamper themselves, or spend in beauty services."
Ms Linh is worried about how further interest rate hikes will affect her business and personal finances.
"I hope in the future that we have a stable interest rate or it does not increase as quick, so at least we have a bit of time to adapt with that, and prepare our financial and everything.
"Because for me, I feel like whenever we struggle with the finance, it's affecting a lot for my mental health,” she said.