On the other hand | A stitch in time for the RBA

As late as 21 January 2026, markets had rated the probability of an upward adjustment to the policy rate at next week’s RBA Monetary Policy Board meeting at around 25 per cent.

That changed dramatically with the release of a blockbuster December labour force report, revealing strong employment growth and a fall in the unemployment rate to 4.1 per cent. Markets revised that probability up to around 60 per cent.

Even then, and with some justification, the notion persisted in some quarters that, with a greater-than-usual amount of uncertainty clouding the global economic landscape, the discretion of no change would prevail over the valour of a policy rate increase.

However, in the wake of the release of the December consumer price index, revealing inflation pressure over and above that forecast by the RBA, discretion may dictate a hike at the February meeting. The more valourous (if less advisable) path may be to leave the policy rate unchanged.

That is, inflation is a clear and present danger, and attending to that danger now by raising the policy rate at the February meeting is the most appropriate RBA response.

A failure to do so may well necessitate more aggressive use of the policy rate instrument down the track. As the saying goes, “a stitch in time saves nine”.

RBA Deputy Governor Hauser has warned that the RBA doesn’t draw a line in the sand on inflation to the extent that there is an outcome for the trimmed-mean that mandates a tightening. But the December quarter outcome is impossible to ignore.

The annual trimmed-mean inflation rate is running at 3.4 per cent against an RBA forecast of 3.2 per cent and a target of 2-3 per cent.

With a strong rebound evident in consumer spending and the labour market looking to be in relatively good shape, this leaves the balance of probabilities strongly in favour of a policy rate rise.

Moreover, other arms of economic policy are doing little to get inflation down. Indeed, the inflation problem is being exacerbated by government policy at both state and federal levels.

At the risk of sounding like a broken record, I have in the past made the observation that federal and state governments have long averted their eyes to meaningful structural reform that may assist productivity growth and ameliorate inflation pressures. Indeed, successive Federal and State governments have reversed some of the progress made during the Hawke-Keating and Howard eras.

Of particular note are regulatory forays into wage-setting arrangements and the industrial relations arena, which have proven inimical to productivity growth.

That has seen unit labour cost growth run at around 5 per cent, something manifestly irreconcilable with the RBA’s current 2-3 per cent inflation target.

Fiscal policy, too (at state and federal levels) has done little to attack the fundamentals of inflation pressure.

That leaves me thinking that the RBA should raise the policy rate when it meets next week.

I suspect it will.

The Fed: not yet, maybe later…

As had been almost universally expected, the Fed’s Federal Open Market Committee (FOMC) overnight announced that it had kept the policy rate unchanged in the 3.5 – 3.75 per cent range.

Of course, that won’t please the White House, but with US economic activity growth exceeding expectations and inflation still exhibiting some “stickiness,” the decision to leave the policy rate unchanged is eminently defensible.

The decision to hold the policy rate in its current range was not unanimous, with two Fed Governors favouring a lowering of the policy rate.

In announcing the decision, the Fed Statement noted that “economic activity has been expanding at a solid pace,” but that “job gains have remained low” even if “the unemployment rate has shown some signs of stabilisation” and inflation “remains somewhat elevated”.

Fed Chair Powell described the current stance as “at the high end of a neutral range,” adding that it was hard to say that policy was overly “restrictive”. However, he refused to be drawn on the likelihood of when there might be a future rate cut. Rather, he thought the Fed was “well-positioned” to respond to incoming data.

The “dot plot” issued at the last meeting in December 2025 indicated only one policy rate reduction would be appropriate in 2026.

In essence, today’s decision reflects some anxieties around ongoing inflation in the system, even if those anxieties are slowly dissipating as disinflation continues in the service sector and tariff effects wind their way through the goods sector. In essence, the Fed Chair, in his press conference, appeared to imply some progress toward the Fed inflation objective but was careful to note that the Fed remains focused (and has had some success) on keeping inflation expectations anchored.

With signs of some stabilisation in the labour market, therefore, and given strong activity growth, the Fed consensus doesn’t yet see room for cutting the policy rate.

Against that, it might be argued that strong US productivity growth reflecting, inter alia, strong AI investment might well yield an inflation dividend, perhaps increasing the US economy’s “speed limit,” and that the Fed can accordingly cut the policy rate.

To that end, there seemed to be some nod from the FOMC that they are cognisant of risks that the labour market may soften further, noting that it “would be prepared to adjust the stance of monetary policy as appropriate if risks emerge that could impede the attainment of the Committee’s goals”.

All that added up to the Fed retaining maximum optionality in terms of when there might be an adjustment to policy, meaning that the Fed’s course remains heavily data dependent.

The foregoing, to my mind, suggests that a cut in the policy rate at some stage is still a strong possibility under Chair Powell.

Whether a more aggressive approach to cutting rates eventuates, rather than just the one cut in 2026 implied by the “dot plot” depends not only on economic developments but probably also on whoever succeeds Powell as Chairman when his term expires in May.

That changing of the guard at the top could well see the policy rate lower than that implied by the “dot plot”.

Stephen Miller is an Investment Strategist with GSFM. The views expressed are his own and do not consider the circumstances of any investor.