RBA hike supports AUD’s position as best performing G10 currency

AUD: RBA hikes rates & leaves door open for more boosting Aussie

The Australian dollar has been the best performing G10 currency overnight following the RBA’s decision to raise rates. It marks a quick turnaround for the Australian dollar which had started the week on the defensive alongside the sharp correction lower for commodity prices particularly for precious metals and copper. After hitting a low of 0.6909 yesterday, the AUD/USD rate has risen back above the 0.7000-level overnight. The price action is supportive for our long AUD/GBP trade recommendation (click here). The Australian dollar has derived support from the RBA’s decision to join the BoJ in raising rates. The policy rate was raised by 25bps to 3.85% which is now closer to the highest level amongst G10 central banks. The RBA’s decision to raise rates was based on their assessment that some of the material increase in inflation in the second half of last year reflected greater capacity pressures, and the Board considers that inflation is likely to remain above target for some time. The RBA noted that private demand has strengthened substantially more than expected in recent months, and that labour market conditions remain “a little tight”.

In the accompanying press conference, Governor Bullock warned that they can’t allow inflation to get away from us again and they believe there is excess demand in the economy now. She emphasized that the RBA would be cautious when considering whether to hike rates as they had been when easing policy previously. She stated that she did not know if the RBA was embarking on a hiking cycle or if today’s decision was just a one off, but did indicate that if inflation proves more persistent then they may have to hike further. Today’s decision to hike rates highlights that the RBA is uncomfortable with the current inflation level.  Overall, the comments leave the door open for further rate hikes this year if inflation continues to surprise to the upside. The Australian rate market has moved to price in another 25bps hike by the May policy meeting encouraging a stronger Aussie.      

DIVERGENCE BETWEEN USD & YIELD SPREADS NARROWS

Source: Bloomberg, Macrobond & MUFG GMR

USD: Solid US cyclical momentum & US trade policy in focus

The US dollar has continued to rebound at the start of this week supported by President Trump’s decision to nominate former Fed Governor Kevin Warsh to the next Fed Chair. He is well respected by market participants and central bankers which is helping to dampen fears over threats to the Fed’s independence in setting monetary policy. The US dollar has benefitted from the scaling back of the US policy uncertainty risk premium that had been priced in at the start of this year. After diverging recently, the US dollar and yield spreads are becoming more aligned again. US yields and the US dollar were also lifted yesterday by the release of the much stronger than expected ISM manufacturing survey for January.

The survey revealed that business sentiment in the manufacturing sector posted its largest monthly increase since the initial re-opening from the COVID shock in the middle of 2020. It was the highest reading since August 2022. The survey adds to building evidence pointing to strengthening cyclical momentum for the US economy heading at the start of this year. Market participants are already optimistic that fiscal stimulus from President Trump’s One Big Beautiful Bill and the hosting of the World Cup will provide additional support for growth.

Stronger growth has already encouraged market participants to scale back expectations for Fed rate cuts this year. We still expect the Fed to cut rates again once the new Fed Chair is in place. Kevin Warsh has previously criticised the Fed for not lowering rates and is likely to emphasize that higher productivity growth gives the US economy to grow more without creating inflation pressures. Further Fed rate cuts are an important assumption behind of forecasts for further US dollar weakness in 206, please see our latest monthly Foreign Exchange Outlook report released yesterday (click here).

The latest US policy announcement overnight was the surprise deal reached between President Trump and Prime Minister Modi to lower elevated tariffs on imports from India. The US has agreed to lower the 25% tariffs on imports from India to 18% which is now lower than most Asian peers, and the additional 25% punitive tariff tied to purchases of Russian oil has been scrapped. In exchange, President Trump has stated that India has agreed to purchase USD500 billion of US goods, cuts its tariffs to zero on US imports, and halt crude purchases from Russia. The tariff relief for India’s economy has resulted in the Indian rupee strengthening by over 1% against the US dollar. While the exact details of the deal remain to seen, the halt of crude oil purchases from Russia should undermine their war financing efforts. India has been one of the largest buyers of Russian crude since 2022, and purchased around 80% of Russia’s seaborne Urals crude export sin 2025. Even in January, imports remained substantial at around 1.1-1.2 million barrels per day. If effective it could put more pressure on Russia to reach a peace deal. Please see our latest FX Focus for more details (click here).      

KEY RELEASES AND EVENTS

Source: Bloomberg & Investing.com