The Reserve Bank of Australia said it will have to tighten monetary policy further at some point as it ramped up its core inflation forecasts for coming years predicting that rising energy, food and living costs and an airtight labour market will combine to stoke price pressures.
In its May statement on monetary policy, the Reserve Bank of Australia forecast core inflation to be right at the top of its 2%-3% target band from the end of 2011 through 2012 and 2013 before reaching 3.25% at the end of 2013.
The latter forecast is a technical assumption based on market pricing for the cash rate over the period, the RBA said. The forecasts factor in the higher Australian dollar and the disinflationary impact of the exchange rate's recent appreciation, the RBA said. "Further tightening of monetary policy is likely to be required at some point for inflation to remain consistent with the 2%-3% medium term target," the bank said in the quarterly outlook.
The RBA has left its key cash rate steady at 4.75% since November, a stance it says is mildly restrictive.
The bank again stressed it will look through near-term volatility linked to January's flooding in Queensland and will instead focus on the medium-term horizon, with the jobs market and exchange rate two key factors in its thinking while also noting significant disparities in the economy between the resources rich sector and others.
"In the challenging economic environment that is likely to lie ahead, the board will set policy to ensure a continuation of the low and stable inflation that has made an important contribution to Australia's strong economic performance over the past two decades." The RBA also lowered its growth forecasts in 2012 and 2013 largely reflecting the appreciation of the Australian dollar.
Flagging a range of uncertainties to its outlook, the RBA highlighted developments in Asia as "particularly" important and said the global inflation picture and the European debt crisis remain uncertain. Domestically too there are uncertainties. A relatively high savings rate, which could just as easily increase further as head into reverse, while the much vaunted capital expenditure in the resources sector could be slower than expected.
But the bigger risk is that the mining boom drives competition for labour and as a result fuels inflation pressures. It also said the exchange rate's recent appreciation poses an uncertain impact on the economy.