Minutes of the Monetary Policy Meeting of the Reserve Bank Board

Sydney – 17 and 18 February 2025

Members present

Michele Bullock (Governor and Chair), Andrew Hauser (Deputy Governor), Ian Harper AO, Carolyn Hewson AO, Steven Kennedy PSM, Iain Ross AO, Elana Rubin AM, Carol Schwartz AO, Alison Watkins AM

Others present

Sarah Hunter (Assistant Governor, Economic), Christopher Kent (Assistant Governor, Financial Markets)

Anthony Dickman (Secretary), David Norman (Deputy Secretary)

Meredith Beechey Osterholm (Head, Monetary Policy Strategy), Sally Cray (Chief Communications Officer), David Jacobs (Head, Domestic Markets Department), Michael Plumb (Head, Economic Analysis Department), Penny Smith (Head, International Department)

Financial conditions

Members commenced their discussion of financial conditions by noting that central banks in most advanced economies had cut policy interest rates further in response to easing inflationary pressures and weaker labour market conditions. Many of these central banks had signalled that additional rate cuts were also likely. However, market expectations of the number of further cuts in the United States had declined somewhat, reflecting stronger-than-expected economic data, communication by the US Federal Reserve (Fed) about the balance of risks, the prospect of increased US fiscal stimulus and the anticipated inflationary impact of tariffs.

Sovereign bond yields in advanced economies had tended to drift higher since the start of the year. For the United States and Japan, this reflected rising inflation expectations and a higher expected path for policy interest rates. Projections for ongoing growth in public debt were also placing upward pressure on sovereign yields in the United States, the United Kingdom and parts of Europe.

Equity prices had risen since the US presidential election in most advanced economies, including Australia, and measures of equity risk premia remained very low. In the United States, this appeared to reflect stronger macroeconomic outcomes and expectations, following the US election, of lower corporate taxes and reduced regulation. Recent profit outcomes internationally had also been generally favourable. Outside of the United States, the anticipated impact of tariffs on company earnings had been partly offset by the associated appreciation of the US dollar, which increased the local currency earnings of non-US exporters and multinational companies.

In China, authorities had communicated that monetary and fiscal policy settings would be loosened further in 2025 to support economic growth objectives, against the backdrop of a potentially sustained increase in US tariffs. Longer term Chinese Government bond yields had declined to around historical lows, amid strong demand for bonds and persistently low inflation. Equity prices had been little changed in China after increasing in late 2024 following the announcement of stimulus measures. The renminbi had depreciated only slightly following the announcement of US tariffs, as Chinese authorities continued to lean against exchange rate depreciation.

For Australia, the staff continued to assess financial conditions as restrictive overall. Interest rates on household and business lending were above their average since 2009, household debt repayments were high as a share of income, and growth in private activity was subdued. Estimates of the neutral interest rate are inherently uncertain and different modelling approaches used by the staff suggested a wide range of alternative values; all these lay below the cash rate, even before downward revisions to some of the staff estimates. In light of this pervasive uncertainty, members agreed that these revisions did not change their view about the stance of monetary policy, namely, that it remained restrictive.

Market participants had brought forward their expectations of an easing in monetary policy, and now saw a high likelihood that the cash rate would be reduced by 25 basis points at this meeting. The Board’s communication following the December meeting and the flow of data since then, including lower-than-expected outcomes for inflation and growth in GDP, had all been influential in moving market expectations for the current meeting. Market pricing continued to imply three or four 25 basis point cuts by mid-2026.

Although financial conditions remained restrictive overall, expectations for an early decline in the cash rate had contributed to some recent easing. Housing and business credit growth had increased further, wholesale funding conditions remained favourable and equity valuations were high. Members noted that the apparent strength in credit growth was partly explained by nominal growth in the economy. Indeed, household credit had declined relative to income and indicators of business gearing remained low.

The Australian dollar had depreciated since November 2024, by 4 per cent against the US dollar and 2 per cent on a trade-weighted basis. In trade-weighted terms, the Australian dollar was at the bottom of the trading range seen over the prior four years. The depreciation reflected broad-based US dollar strength associated with the prospect of tariffs, a decline in yield differentials between Australia and major advanced economies, and ongoing uncertainty around the outlook for the Chinese economy. Members noted that the impact of a deprecation of the Australian dollar on domestic inflation depended on its cause. For example, an exchange rate depreciation is less likely to result in higher inflation if it is associated with a decline in the terms of trade or a significant downgrade of the global growth outlook.

International economic conditions

Uncertainty about the global economic outlook remained high, given evolving developments in US Government policies relating to trade, the fiscal position, deregulation and immigration. Members discussed the potential impact on global growth of the announced higher tariffs on imports to the United States and the early responses by other major economies. They judged that the uncertainty about policy settings was likely to weigh on business investment, and perhaps household consumption, until the situation becomes clearer.

Output growth in the United States had remained robust towards the end of 2024 and timely indicators pointed to continued strong growth in the near term. US labour market conditions appeared to have stabilised at a level consistent with the Fed’s assessment of full employment, and earlier downside risks to the labour market had diminished. By contrast, growth in some other advanced economies remained subdued, and more so than had been expected. Inflation had continued to ease in most advanced economies, but the imposition of tariffs could potentially undo some of the progress on disinflation – particularly in the United States.

China achieved its 5 per cent GDP growth target in 2024, with growth picking up towards the end of the year. Some part of this pick-up was judged to be temporary, relating to government subsidies for consumer durable goods in China and strong exports ahead of anticipated US tariffs. Chinese authorities had announced additional fiscal measures to boost consumption, with further support measures expected. While conditions in the Chinese housing market had improved, overall conditions remained weak and a sustained recovery still faced headwinds.

Members noted that the ongoing uncertainty around US Government policy settings meant that Consensus global growth forecasts had not yet changed materially. Accordingly, the central forecast for growth in Australia’s major trading partners was unchanged for 2025. The outlook for 2026 was slightly lower, however, reflecting a softer growth outlook for North America (owing to the prospects of higher tariffs in the region). Members noted the potential for global trade tensions to escalate, in which case these forecasts could change quickly and significantly.

Domestic economic conditions

Turning to the domestic economy, members noted that data on output, inflation and wages had been a little weaker than expected at the time of the November meeting, while data on the labour market had been stronger.

Members considered the staff’s judgement that the easing in labour market conditions since late 2022 had at least stalled and may even have reversed a little in late 2024. The unemployment rate had unexpectedly edged lower in the December quarter to be around the same level as in mid-2024, and the underemployment rate had declined noticeably. Employment growth had remained strong and a range of leading indicators of the labour market also signalled ongoing strength.

Employment growth in the non-market sector continued to be very strong, most notably in health care. Members discussed analysis by the staff that suggested growth in health care employment had been achieved in part by drawing in workers from other industries, not only those who had previously been unemployed or not been in the labour force. Members observed that strong demand for labour in this sector had not resulted in greater dispersion of wages growth, because the movement of labour across industries had alleviated wages pressures in health care while reducing labour supply in industries where broader demand conditions were more subdued. In turn, this had likely contributed to relatively tight labour market conditions more broadly.

Wages growth had remained steady over 2024 in quarterly terms, though it had eased in year-ended terms. Public sector wages growth had been volatile in preceding quarters – and further volatility was possible in coming quarters pending the timing of some large enterprise agreements – but continued to show underlying strength. Unit labour cost growth had also eased but was still higher than consistent with inflation being sustainably at target.

Members welcomed the further easing in underlying inflation in the December quarter. Trimmed mean inflation was 0.5 per cent in the quarter and 3.2 per cent over the year; on a six-month annualised basis it had fallen to 2.7 per cent. There had been a broad-based easing in sub-components of the index. New dwelling cost inflation had eased considerably and unexpectedly owing to builders offering discounts. Inflation in rents had also continued to ease; this was partly due to an increase in the average number of people per household, which had alleviated some of the tightness in the rental market. Inflation in the price of a number of consumer services – including insurance – had declined, though services inflation overall remained high because of ongoing cost pressures. A wide range of transitory falls in various other components, mostly due to increased government subsidies, had collectively and temporarily lowered underlying inflation a little in the quarter. Headline inflation had eased to 2.4 per cent, and remained lower than underlying inflation, in part because of the effect of government subsidies to households.

In light of these developments, members considered the staff’s assessment that overall conditions in the labour market remained tight. That judgement reflected the relatively low rates of unemployment and underemployment, the recent increase in the stock of job vacancies, high growth in labour costs and reports from firms across a range of industries (via both business surveys and liaison) of ongoing difficulties finding suitable labour. At the same time, there had been an earlier-than-expected moderation in wages growth and underlying inflation.

Members then discussed staff analysis of a range of possible factors that could mean labour market conditions might not be as tight as implied by the central forecasts. Among other things, this included the possibility that factors unrelated to labour market tightness – such as workers’ attempts to restore real wages after the material reduction following the surge in inflation – or challenges measuring productivity in the non-market sector might be contributing to an over-assessment of the extent of tightness in the labour market. Members also considered whether the recent easing in inflation at a time of subdued growth in activity was attributable to some firms’ profit margins being compressed (as had been reported in liaison with firms) or to capacity pressures having eased in specific parts of the economy (such as the housing market). Some weight had been put on these arguments in the central projection, pushing down a little on the inflation forecast. However, it was possible that these effects could prove somewhat larger.

Members noted that GDP growth over the year to the September quarter had remained well below estimates of potential growth, consistent with a further narrowing of the output gap. However, timely indicators were implying that growth may have picked up in late 2024 and this recovery was expected to continue over the coming year. As a result, the staff’s judgement was that GDP growth would return to its potential growth rate and that the output gap was therefore unlikely to narrow much further, although the range of uncertainty around this judgement was material. These forecasts embodied a gradual pick-up in productivity growth to around its longer run average, following weak outcomes over preceding years. The unemployment rate was now expected to rise to around 4¼ per cent, lower than expected in November, before stabilising. Members noted that the forecasts were conditioned on market expectations for a cumulative 90 basis points of reductions in the cash rate over the forecast period.

The outlook for household consumption was a key factor underlying the projected recovery in GDP growth. Partial indicators suggested that consumption growth (excluding the effect of energy rebates) may have picked up a little further in late 2024, although it was unclear how much of this related to the increased prevalence of discounting and sales events. More generally, consumption growth was expected to recover alongside growth in real household disposable incomes, although a bit slower than had been expected in November. Members noted that there were credible arguments to suggest that consumption could be either weaker or stronger than the staff forecast. Looking beyond consumption, public demand had continued to support growth in overall activity and the outlook for public demand had been revised up, in line with the mid-year budget reviews by the Australian Government and state and territory governments.

Underlying inflation was forecast to return to the 2–3 per cent range earlier than previously expected. The staff had taken some signal from the weaker-than-expected December quarter inflation outcome, although quarterly underlying inflation was expected to pick up in early 2025, in part owing to the unwinding of some temporary factors. However, underlying inflation was forecast to settle a little above the midpoint of the 2–3 per cent range from late 2025, assuming the cash rate followed the implied market path conditioning the forecasts. Members noted that this forecast was underpinned by the staff’s judgement that labour market conditions would remain tight into the future if the cash rate followed this market-implied path, sustaining some upward pressure on inflation. Based on this forecast for underlying inflation, headline inflation was expected to exceed 3 per cent temporarily owing to the scheduled unwinding of cost-of-living measures.

Members discussed potential risks to the forecasts identified by the staff. One related to the possibility that the extent of excess demand in the labour market had been overestimated, as discussed earlier. Another related to uncertainties over US Government policy. Members noted the staff’s stylised scenarios that combined different assumptions of output growth of Australia’s trading partners, shifts in global trade patterns, the impact of high uncertainty on investment and household spending, and financial linkages such as movements in the exchange rate. All the scenarios indicated that the effect on domestic growth would be negative to some degree, but it was less clear whether the effect on inflation would be positive or negative.

Considerations for monetary policy

Turning to considerations for the monetary policy decision, members noted that inflation had declined, and by more than had been expected, while wages growth had slowed. Output growth had remained subdued, reflecting weak growth in private demand over the prior year amid restrictive financial conditions. At the same time, underlying inflation remained above the midpoint of the 2–3 per cent range. Output was most likely a little above its potential level and the labour market was still judged to be tight; there had also continued to be very strong growth in employment and a decline in measures of underemployment. Consumption growth looked to have picked up in the December quarter, as expected. Given these factors, underlying inflation was expected to be a little lower in the near term than had been forecast in November, but it was then forecast to remain above the midpoint of the target range if the cash rate were changed in line with market expectations.

In light of these developments, members considered their decision on the cash rate.

Leaving the cash rate unchanged at this meeting could be appropriate if members formed the view that labour market conditions were still tighter than consistent with sustaining inflation at target, that the upside risks to inflation were still material or that a cut in the cash rate would not leave monetary policy sufficiently restrictive. Members noted that placing significant weight on any of these arguments could imply that it would be best to wait for additional data before deciding to adjust the cash rate.

Conditions in the labour market provided the strongest reason to leave the cash rate unchanged. Members noted that a broad range of labour market indicators had strengthened over prior months and that the staff had lowered their forecast for the unemployment rate. They observed that there was a possibility that conditions in the labour market could prove even stronger than assumed in the staff’s forecasts. Members noted that, while there was significant uncertainty about the extent of excess demand in the economy, the staff’s judgement was that the tightness in the labour market was not consistent with inflation being at the target.

A second argument to hold the cash rate steady related to the possibility that growth might pick up more quickly than forecast. That might come from household consumption, given the nascent recovery in real incomes and the aggregate financial position of the household sector. Or it might come from stronger global growth, if recent trends in equity markets were correct in implying that any adverse impact on growth of evolving US Government policy might not be material. Against this backdrop, members noted that the output gap was judged to be positive and unlikely to close over the forecast period if the cash rate followed the market path.

A third potential reason for leaving the cash rate unchanged could be if members formed the view that the stance of monetary policy would not be sufficiently restrictive following a cut in the cash rate. Members noted that while there were various indicators underpinning the staff’s judgement that current policy was restrictive, the signal from some other indicators (including credit growth, and equity and corporate bond market pricing) clouded this conclusion somewhat. The Australian dollar had also depreciated a little over preceding months. Members observed that not having lifted interest rates as high as in countries that had faced a similar inflation challenge meant the Board should be cautious when deciding to lower the cash rate.

By contrast, reducing the cash rate at this meeting would be appropriate if members judged that their confidence that inflation could sustainably be returned to target had risen, if they placed greater weight on the downside risks to the economy than on those to the upside, or if the risk of leaving interest rates at current levels for too long was assessed to be greater than the risk of easing policy too soon.

The strongest reason to lower the cash rate at this meeting was based on the signal from recent trends in inflation and wages. Members noted that inflation in the December quarter had been weaker than expected: indeed, underlying inflation was already close to the midpoint of the target range on a six-month annualised basis. The composition of inflation – with house-building costs having fallen and the pace of increase in rents and insurance premiums moderating – had also been favourable. Wages growth had been a little softer than expected, and the prospect that it would pick up had perhaps diminished given inflation had declined and if firms and workers were adjusting to weaker productivity growth.

These developments could also be taken to imply that there was possibly more capacity in the labour market than members had previously judged. Members debated the range of explanations reviewed by staff that could be consistent with this. These included the possibility that a reasonable portion of the growth in wages over the prior year was attributable to real wage catch-up, or that productivity growth in the non-market sector had been higher than the official measure.

The case to lower the cash rate at this meeting could be further supported if members assessed that the risks surrounding the outlook for economic growth were, on balance, to the downside. In the domestic economy, members considered it unlikely that employment in the non-market sector would continue to grow as strongly over the forecast period as it had done over the preceding year, and noted that any slowing would weigh on overall employment unless hiring in the market sector strengthened. The recovery in consumption was also not yet assured, given uncertainty about how much the December quarter data had been influenced by discounting or promotional activity and the risk that earlier falls in real household disposable income would exert a persistent drag. Consistent with that, some firms had recorded a narrowing in their profit margins. Internationally, uncertainty about US Government policy was high and members noted that this could have a material adverse effect on the propensity of firms and possibly also households to spend. Activity in the Chinese economy was also expected to slow.

Having weighed up these alternative arguments, members decided that the case to lower the cash rate target at this meeting was, on balance, the stronger one. Members judged that the continued fall in underlying inflation, and at a somewhat faster pace than expected, meant that the upside risks to inflation had abated enough that they no longer needed the insurance they had taken out when raising the cash rate target in November 2023. Members tended to place more weight on the downside risks to the economy, and on the possibility identified by the staff that capacity in the labour market might be somewhat greater than embodied in the central projection. Given these judgements, members were particularly mindful of the risk of keeping monetary policy tight for too long, with adverse impacts on economic activity, the labour market and inflation.

In taking this decision, members considered the risk that easing policy too soon could add to inflationary pressures. They observed that the central forecast for inflation to settle a little above the midpoint of the 2–3 per cent target range over the medium term was predicated on three to four reductions in the cash rate target over the year or so ahead. An alternative projection, in which the cash rate was left at 4.35 per cent for an extended period, showed underlying inflation undershooting the midpoint of the target range over the medium term. Members noted that both projections were subject to material uncertainty. But if the evolving data signalled that inflation was proving more persistent than expected, it would be reasonable to maintain a more restrictive stance of policy by holding the cash rate at 4.1 per cent for an extended period – given members’ assessment that this level would still be restrictive – or by even tightening policy if the outlook was for inflation to rise materially. On balance, members judged that accepting the risk of needing to adopt such a course of action was preferable to accepting the risk of holding interest rates high for too long.

In light of these considerations about the risks surrounding the Board’s decision, members agreed that their decision at this meeting did not commit them to further reductions in the cash rate target at subsequent meetings. While economic outcomes had given members more confidence that they could return inflation to target at the same time as preserving most of the gains in the labour market with a lower cash rate, they agreed that this was not yet assured. As a result, members expressed caution about the prospect of further policy easing, which could also be seen in the forecast for inflation based on the market path. Members distinguished their current situation from that faced by central banks in other countries that had lowered interest rates several times. They noted that interest rates in Australia had not risen as high as elsewhere and that the labour market domestically was in a much stronger position than had been the case in other economies when their central banks first lowered interest rates.

In finalising the policy statement, members affirmed their commitment to returning inflation to the midpoint of the target range, consistent with the Board’s mandate set out in the Statement on the Conduct of Monetary Policy. They emphasised that the decision at this meeting acknowledged the progress that had been made in reducing inflation while not committing the Board to ease policy further. Members also agreed that future decisions would be guided by the incoming data and evolving assessment of risks. Returning inflation to target remains the Board’s highest priority and it will do what is necessary to achieve that outcome.

The decision

The Board decided to reduce the cash rate target by 25 basis points to 4.10 per cent and to decrease the interest rate on Exchange Settlement balances by 25 basis points to 4.00 per cent.