A recent version of the Taylor rule specifies that the Federal interest rate target should have a threefold aim: (a) to curb inflation (b) to avoid excess unemployment and (c) stop prospective asset prices.
With a rising Australian dollar (and with an under-utilised labour market), there is little prospect of inflation, at least for the next year or so. If anything, underlying inflation seems likely to range around 2%.
It is widely forecast that Australia will continue to have at least 1.5% to 2.5% of excess unemployment and under-employment over the next twelve months.
A rise in interest rate will do nothing to relieve housing prices, as it only hits demand and does nothing for capacity. It is more likely to have a significant effect on share prices but these are still well below their peak level of December 2007.
So why is the RBA tipped to put up interest rates by as much as 1 percent over the next 12 months?