AUD/USD analysis amid Fed and RBA divergence on rates

The AUD/USD exchange rate held steady on Tuesday morning after the latest Reserve Bank of Australia (RBA) interest rate decision. After crashing to a multi-month low of 0.6350 on Monday, it rose to a high of 0.6510.

Reserve Bank of Australia's decision

The RBA delivered its closely watched interest rate decision on Tuesday morning. As was widely expected, it left interest rates unchanged at 4.35% for the seventh consecutive meeting as its battle against inflation continued.

The bank also maintained a relatively hawkish tone as it warned that inflation could remain at an elevated level for a while. It expects that the headline CPI will move to its target of 2.0% in either 2025 or 2026. 

The RBA also noted that it may consider hiking interest rates if inflation remains at the recent levels. However, most analysts expect the bank will leave rates unchanged and start cutting them either in December or in the first quarter. 

The most recent data showed that Australia’s inflation was starting to move in the right direction. 

While the headline CPI rose from 3.6% in Q1 to 3.8% in Q2, the other closely watched numbers like the trimmed and weighted mean CPI data dropped to 3.9% and 4.1%, respectively. The two were lower than the median estimates of 4.0% and 4.3%. The RBA’s statement said:

Australia’s inflation is still higher than in most countries. In the United States, the headline Consumer Price Index (CPI) fell to 3.0% in June while the Personal Consumption Expenditure (PCE) dropped to 2.6%.

In Europe, recent data showed that inflation rose slightly to 2.8% in August while British inflation has dropped to the Bank of England’s target of 2.0%.

The RBA is also concerned about the Chinese economy, the country’s biggest trading partner, where growth has stalled. Recent data showed that the economy grew by just 4.7% in the second quarter. As a result, the prices of most Australian products has dropped sharply recently.

Federal Reserve rate cuts

The AUD/USD pair is also reacting to the fact that the Federal Reserve will likely start cutting interest rates earlier than the RBA.

In its monetary policy last week, the Fed decided to leave interest rates intact between the 5.25% and 5.50% level. In his statement, Jerome Powell noted that the bank was comfortable to start cutting rates in its September meeting.

Before that, he hinted that the Fed was focusing on the labor market now that the inflationary trend is continuing. Inflation has dropped in the past three consecutive months and analysts believe that the trend will continue. 

The labor market, on the other hand, has been quite weak, with the economy creating over 114,000 jobs in August and the jobless rate rising to 4.3%. Wage growth has also started falling as it reached a low of 3.4%.

Therefore, analysts expect the Fed to cut rates as soon as this month if it holds an emergency meeting. If it waits until September, analysts see the bank cutting them by a whopping 0.50%, in what is known as a jumbo cut. 

Analysts at UBS predict that the Fed will deliver 100 basis points cuts by the end of the year, a move that will take them to 4.5%. Jefferies analysts see the Fed having an emergency meeting this month and slashing them. In a note, analysts at ING Bank said:

AUD/USD technical analysis

The daily chart shows that the Australian dollar to USD bottomed at 0.6348 on Monday as the volatility in the forex market continued. As it dropped, it moved slightly below the important support level at 0.6363, its lowest point on April 19th. 

The pair then bounced back and formed a hammer pattern. In technical analysis, this is one of the most bullish candlestick chart patterns in the industry. The AUD/USD has also moved back to the bearish flag pattern that was forming.

Therefore, the pair will likely continue rising as the divergence between the Fed and the RBA continues. If this happens, the next important level to watch will be at 0.6575, its lowest swing in June this year.