The RBA has raised interest rates again. What does this mean for the economy in 2023?

<span>Photograph: Rick Rycroft/AP</span>
Photograph: Rick Rycroft/AP

The Reserve Bank on Tuesday raised the cash rate for a record eighth time in as many months to 3.1%, adding pressure on millions of Australians with mortgages ahead of Christmas.

The RBA is worried inflation is still too high and has indicated more rises may be on the cards.

So what do economists think is likely to happen to interest rates in 2023 and what will it mean for the Australia economy and inflation?

John Quiggin

Professor of economics, University of Queensland

After copping a good deal of flak for failing to predict the surge in inflation that accompanied the recovery from Covid restrictions, the Reserve Bank runs the risk of over-correcting, and of bringing to an end the first period of effectively full employment Australia has experienced since the 1970s. There is every likelihood of a global recession in 2023, and the primary concern of fiscal and monetary policy should be to protect the Australian economy from its consequences.

As the treasurer, Jim Chalmers, has noted, we are certain to see further inflation as the consequences of the climatic disasters and energy shocks of 2022 work their way through the system. But these events are in the past, and nothing is to be gained by attempting to suppress their consequences. We can reasonably hope for a respite from such shocks which will result on downward pressure on inflation in the later part of 2023.

Moreover, it is crucial to remember that the 2% inflation target around which monetary policy has been formed should not be regarded as the ultimate objective. The target level was chosen, more or less arbitrarily, in the very different circumstances of the 1990s. Moreover, the idea of targeting the inflation rate was to provide a stable framework within which the Reserve Bank could pursue all of its legislated goals: including full employment, and economic prosperity as well as price stability. An engineered recession would sacrifice two of these goals to correct a temporary deviation in the third.

The holiday break provides policymakers with a chance to assess developments in the global economy, and the impact of previous increases in interest rates, before deciding on subsequent measures. The Reserve Bank should not be in a hurry to return to the path of raising rates until the economic picture becomes clearer.

Stephen Koukoulas

Managing director, Market Economics

The path for monetary policy during 2023 is likely to be characterised by the RBA ready to deliver further interest rate hikes, but it will be discouraged from doing so because inflation will be falling, the domestic economy will be slowing, the global economy will be faltering and the unemployment rate will be rising.

The interest rate rises delivered by the RBA during 2022 have been the right thing to do as a policy action to tame inflation, household “pain” or not. There are many signs that the policy approach is working, well before the full effect of the 300 basis points of hikes delivered so far take effect.

Retail spending has stalled, building approvals are trending lower, demand for labour is in the early stages of easing, house prices are falling and inflation pressures are topping out. Public demand is also weak as the government works to repair the budget.

Globally, inflation is clearly on a downward path. Just as Australia imported much of the surge in inflation in late 2021 and into 2022, it will import disinflation in 2023 as supply chain issues are fully resolved and commodity prices, for example, continue to weaken.

All forecasters are looking for inflation to fall from the end-2022 peak of 8%. The uncertainty is the trajectory for the disinflation. In other words, will inflation end 2023 at 2%, 3%, or 4%? And where will it be in 2024?

The RBA reckons that inflation will remain a little above 3% in late 2023 and into 2024. If this forecast is wrong, which it appears to be by a large margin, further interest rate hikes will not be needed. If, as is more likely, inflation tracks towards 2% by the end of 2023, not only will interest rates be on hold in the first half of 2023, but they would need to be cut to tackle the problem of inflation being too low.