RBA warns energy shock risks unanchoring inflation as conflict clouds outlook
Summary:
- RBA flags Middle East conflict as dual growth-inflation shock
- Financial conditions already tightening
- Energy prices pose upside inflation risk
- Focus on preventing inflation expectations becoming unanchored
- Risk of more restrictive policy if expectations rise
- Short-run neutral rates pulled in both directions
- Longer conflict increases economic damage
- RBA remains data-dependent, balancing inflation and growth
The Reserve Bank of Australia has warned that the escalating Middle East conflict is creating a complex policy trade-off, with risks skewed both to weaker growth and higher inflation, as energy-driven shocks ripple through the economy.
In a speech in Sydney, Assistant Governor Christopher Kent said the conflict has already led to a tightening in financial conditions, reflecting heightened uncertainty and global market volatility. At the same time, the surge in energy prices represents a clear supply-side inflation shock, complicating the policy outlook.
Kent emphasised that while central banks cannot prevent such shocks, they must ensure that the initial rise in prices does not feed into longer-term inflation expectations. Preventing this “second-round” effect remains critical to maintaining price stability.
He warned that if inflation expectations were to become unanchored, this could push short-run neutral interest rates higher and require a more restrictive policy stance than would otherwise be necessary. Conversely, the tightening in financial conditions tied to the conflict may act in the opposite direction, lowering neutral rate estimates in the near term both domestically and globally.
This interplay highlights the increasingly difficult balancing act facing policymakers. The longer the conflict persists, Kent noted, the larger the economic impact is likely to be, raising the risk of both slower growth and more persistent inflation pressures.
The remarks come after the RBA raised its cash rate to 4.10% earlier this month, the second consecutive hike, as inflation remained elevated even before the latest energy shock. While the central bank had previously assessed rates around 4.35% as restrictive, Kent suggested that recent shifts in economic conditions and neutral rate estimates have made that judgement less clear.
Ultimately, Kent reiterated that the RBA will continue to assess the countervailing forces at play, with policy set to achieve low and stable inflation alongside full employment.
The evolving outlook suggests policymakers are likely to remain highly data-dependent, with particular focus on inflation expectations and the persistence of energy-driven price pressures.
This article was written by Eamonn Sheridan at investinglive.com.
