MNI INSIGHT: RBA Yield Target A Victim Of Higher Swap Rates

The Reserve Bank of Australia's yield target on government bonds was changed because the policy's effectiveness had declined as other interest rates – such as bank bill swap rates – had increased, MNI understands, even as it was criticized for its views on the timing of the next rate rise.

In late October, the RBA declined to defend the 0.10% yield target on government bonds maturing in April 2024, just after markets – and the central bank – were surprised by Australian third quarter inflation data, see: MNI STATE OF PLAY: Ambiguity On Inflation Clouds RBA Rate View.

MARKET DYNAMICS

MNI understands that a combination of a rise in other interest rates not priced off the four-year bonds along with an inflation surprise led to a view that there was a tangible possibility that the RBA could raise interest rates in 2023, and not in 2024 as previously maintained and supported by the yield target.

With swap rates increasing and with them fixed-interest rates for mortgages, maintaining and defending the yield target would not be as effective in keeping market rates lower, as it had succeeded in doing until recently.

INFLATION FORECASTS

CPI Inflation for the third quarter was 3.0% and the RBA's preferred measure, trimmed mean inflation, was at 2.1% and inside the bank's 2% to 3% target range for the first time in over five years.

Once the RBA saw the inflation print on Oct. 27, MNI understands there was a view that there was no point in purchasing more April 2024 bonds before the board meeting on Nov. 2, at which the yield target was formally abandoned.

The RBA's view on inflation has not changed radically, with new forecasts showing that under its baseline scenario trimmed mean inflation would be at 2.5% only by the end of 2023 in the Statement on Monetary Policy released two days after the board meeting. This has created some ambiguity in the RBA interest rate outlook, with the bank currently uncertain of whether it sees conditions for a rate hike in 2023 or 2024.