The market thinks the likelihood of the RBA lifting interest rates tomorrow is 72 per cent.
[Embed datawrapper]But here's a very important caveat — the market has been wrong before and at some point it will be wrong again.
You don't even have to look very far back to find a glaring example.
In July last year, the market was 96 per cent confident the RBA was about to cut rates. It was wrong.
Independent economist Nicki Hutley says the market's predictions are normally pretty good but forecasting is harder when the data on inflation is less clear.
"I think the market has overreacted to the December inflation data," she said. "There is something that we need to be watching closely but it feels like it's a bit of a 'henny penny, the sky is falling' over-reaction to me."
What do economists predict?
We consulted five leading economists. Here's what they think in a nutshell:
- Nicki Hutley: Rate rise
- Richard Holden: Rate rise
- Cassandra Winzar: Rate rise
- Besa Deda: Rate rise
- Robert Brooks: On the fence
Ms Hutley says the central bank will be feeling cautious about data showing inflation has ticked up.
"Their language has been quite hawkish in more recent months, and I think they'll feel that a precautionary tiny tweak is worthwhile," she said.
"I don't necessarily think it's the start of a longer cycle of tightening though."
Monash University economist Robert Brooks is less definitive.
"There is sort of a post-pandemic concern that perhaps central banks waited a bit too long to move rates up and therefore let a bit more inflation get into the system," he said.
"But there is a question around timing and that timing has got a balance. So at one level, if rates increased, I don't think that would be a surprise.
"If rates stayed on hold, that wouldn't be a surprise either. I think you could make that case."
But Cassandra Winzar, chief economist at the Committee for Economic Development of Australia, says the argument for an increase is stronger than the case for keeping rates steady.
"[The RBA has] had quite a few months now of inflation being that bit higher than we'd like. So it's not just a one-off," she said.
"There's a fairly strong case that now is the time to take a bit more action and get inflation under control sooner rather than later."
Why would the RBA increase interest rates?
Ms Hutley says the case for a rate rise is due to inflation creeping above the Reserve Bank of Australia's target, which is between 2 per cent and 3 per cent.
"It's not out of hand, but it's certainly not heading in the right direction at the moment," she said. "They are very concerned to make sure that inflation is heading back towards the centre of the target band, not away from it."
University of New South Wales economist Richard Holden says an increase in "trimmed mean" inflation will be of particular concern.
It rose in December to 3.3 per cent from 3.2 per cent in November.
"[That] is a sort of measure of underlying inflation to which the RBA pays attention, it has ticked up," he said. "That's the most compelling argument [for a rate rise]."
Ms Winzar says the fact that unemployment has remained low at 4.1 per cent will also give the RBA confidence to raise the cash rate.
"That gives the RBA little bit more leeway to raise interest rates to try and bring inflation back down into the [target] range without having too much of an effect on labour markets," she said.
Why would the RBA keep interest rates on hold?
Professor Brooks says low unemployment and moderate wage growth mean it would be safe for the RBA to keep rates where they are.
He says the RBA has in the past been concerned that high inflation could feed wage increases, which would then see a rise in prices.
"So that concern of a wage price interaction hasn't manifested itself," he said.
"The second reason why I think you could make a case potentially for rates staying on hold is that even in the face of recent data, inflation expectations have remained stable."
Besa Deda, chief economist at William Buck, says the RBA will also be looking at the resilience of the global economy over the year, despite increasing uncertainty.
She says those risks have seen a sell-off of the US dollar, and a rise in the value of the Australian dollar.
"[It is] higher including in trade-weighted terms, which is the value of our currency against the currencies of the countries that we trade with the most," she said.
"That will help tradables inflation be restrained."
Professor Holden is less convinced, saying there are not many compelling arguments to hold rates.
But he says there is a chance the RBA may want to see more data before making the call to raise.
"You don't just sort of put rates up and down like yo-yos," he said.
"That would be the best argument I think one could muster, which is, maybe it's an anomaly, wait and see.
"But I don't think it's a very persuasive argument."
How high are interest rates anyway?
The Reserve Bank of Australia's official cash rate is 3.6 per cent.
[Embed interest rates chart]Banks use the cash rate to set their interest rates — new home loan borrowers will currently pay about 5.5 per cent.
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