The RBA Interest Rate Decision: Why You Should Care

About 40 hours from now, the Reserve Bank of Australia (RBA) will announce its much-awaited decision on interest rates. Brace yourself folks, as the upcoming release could take the Aussie down in the dumps or soaring across the charts!

What the heck is the RBA interest rate decision and why is it important?

Every month, the RBA meets to formulate monetary policy and make appropriate changes to the benchmark interest rate to achieve certain economic goals (reduce unemployment, increase GDP, etc.) and maintain price stability (keep inflation within its target range).

Interest RatesThe RBA interest rate announcement is important because it is the central bank’s primary method to communicate with investors about monetary policy.

More than simply announcing the new benchmark interest rate, the RBA also tells the market the reasoning behind its decision. It also offers insight on the outcome of succeeding interest rate decisions.

Interest rate expectations have a high positive correlation with the value of the Aussie. Usually, rising interest rates tends to lead to a stronger demand for the domestic currency while falling interest rates tends to reduce demand. You could say looking at interest rate expectations and trends are vital in determining the overall long-term direction of a currency.

What does the market expect for the upcoming rate decision?

The market generally expects the RBA to keep rates unchanged at 4.75%, but recent developments have some of the top banks in Australia changing their bets.

The guys over at ANZ Bank and the Royal Bank of Scotland believe that a 0.25% rate hike on Tuesday will happen. According to the bank, the small adjustment is needed to save Australia from a potential painful rise in inflation.

The main catalyst behind the upgrade in their interest rate forecast was none other than the stronger-than-expected consumer price index for June. According to CPI report released last Wednesday, Australia’s inflation rate for June was at 0.9%, higher than the 0.7% increase initially predicted. Unless you’ve been living under a rock, you’d know that the Aussie soared to new highs versus the Greenback that day as well.

The strong inflation figure puts the RBA in a very difficult spot. If they do not raise rates, the central bank could see inflation spiral out of control like it did during the commodities boom a few years ago. If they do raise rates, they could strangle growth prematurely at a time when there is a high level of global economic instability.

What’s next for the Aussie?

With inflation in Australia on the rise, the debt ceiling deadlock in the U.S., and contagion fears in the euro zone, I think it’s pretty clear which currency among the majors is currently most attractive. Hmm, time to buy the Aussie?