May sees Australia's biggest price jump in six months, raising chances of higher interest rates

Australia's consumer inflation surged to a six-month high in May, with core prices climbing for the fourth consecutive month. This fact has increased market expectations for another potential interest rate hike this year.

The Australian dollar experienced a 0.5% uptick, reaching $0.6684, while three-year bond futures plummeted by 18 ticks to 95.93, marking their lowest level in three weeks. The chance of a quarter-point interest rate hike by the Reserve Bank of Australia (RBA) by November is now implied at 60%, a sharp increase from the prior null probability, with August being targeted depending on the complete second-quarter Consumer Price Index (CPI) report.

The Australian Bureau of Statistics revealed on Wednesday that the monthly CPI rose at an annual pace of 4.0% in May, up from April’s 3.6% and exceeding market forecasts of 3.8%. The trimmed mean, a key core inflation metric, reached an annual 4.4%, its highest in six months, up from 4.1%.

Analysts from UBS and Deutsche Bank are now predicting a rate hike in August, while National Australia Bank (OTC: NABZY) postponed their forecast for the first easing to May 2025, previously set for November. UBS's chief economist, George Tharenou, anticipates that the second-quarter CPI will surpass the RBA's own predictions with a quarterly rate of 1.1%. “Our revised CPI forecasts make an August rate hike a 'close call'," Tharenou stated, hinting at the prospect of another hike in November.

August Hike in the Cards?

With inflation running above the 2-3% target, the RBA has maintained a vigilant stance on upside risks. The central bank has kept interest rates steady at a 12-year high of 4.35% for five meetings in a row. However, encouraging signs that second-quarter inflation data may come in strong could pressure the RBA to hike rates in August.

While travel costs—a volatile sector—contributed to the unexpected inflation spike in May, areas such as services are showing signs of moderating price gains. When excluding travel and other volatile items, the CPI dipped to 4.0% from April's 4.1%.

The report also highlighted an annual spike in electricity prices by 6.5%, following a 4.2% rise in April due to the rollback of government rebates. These prices are, however, anticipated to ease in the third quarter as new cost-of-living relief measures take effect. Additionally, rent increased by 7.4%, and insurance costs surged by 14%.

The May update showed that prices for haircuts, restaurant meals, and takeaway food also saw annual increases of 5.5%, 4.2%, and 4.3%, respectively.