- Australians face threat of rising inflation in the US, much like many economies.
- US dollar is a threshold currency for many countries, which cements its power in the global economy.
- Imports from the US would get more expensive, and interest rate hikes might be more aggressive in Australia.
Inflationary pressures have been surmounting across the globe, putting pressure on financial markets. As if domestic inflation was not enough, Australians also face the threat of rising inflation in the US.
One of the key economies in the world, the US has an enormous hold on the financial ecosystems of most countries. Rising inflation in the US signals rising living costs across the world.
For Australians, the implications of rising inflation in the US can be seen in multiple areas. The highly interconnected global economy means that small changes in one country quickly travel to another part of the world. Additionally, inflation in the US has shot up at a never-before-seen rate due to many global adversities taking place at once.
The Russia-Ukraine war has created much of the price momentum across countries, and a damaged supply-chain ecosystem is only adding to the problem. However, how do price pressures travel from the US to Australia? Here are a few key points to note about rising inflation in the US.
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Unbeatable impact of US market
There is no denying the fact that the US dollar is a threshold currency for many countries. Fluctuations in the dollar are reflected in economies throughout the globe. On the contrary, the Australian dollar does not have that much of an impact on the US, let alone the entire world.
First and foremost are the rises in the interest rates which have resulted from the soaring inflation. In March, the US Federal Reserve raised the federal funds rate a few weeks before the Reserve Bank of Australia (RBA) raised its cash rate. Rising US interest rates can impact Australian markets through the borrowing channel. Australian banks depend on foreign markets to access their funds, and rising interest rates can mean higher borrowing costs for domestic banks.
Banks paying higher borrowing fees would ultimately forward these costs to consumers. The RBA raised its interest rate soon after the US Fed announced its first rate hike. The RBA is likely to take a path similar to the US Fed to protect the banks’ interests.
Going by this narrative, the Fed’s latest rate hike of 50 basis points could mean the RBA will also take a more aggressive route in monetary policy tightening. This fact is enough to ring alarm bells across mortgage holders, which form a large proportion of the Australian population. At present, mortgage lending is at the highest level ever seen in Australia. Therefore, the Australian economy is highly susceptible to interest rate changes.
Inflation feeding into inflation
High inflation often gives birth to a vicious cycle of a never-ending rise in prices. Rising costs seen across the US would quickly spill over to other parts of the world, including Australia. This means that companies in the US facing increased costs of production would not just sit idle and do nothing. Instead, they will try to regain their margins by pushing up the prices of their products.
Imports from the US are likely to become more expensive, and those items which do not have an alternative in the home economy would be imported at high prices. Australian producers depending on American raw materials, would be forced to raise the prices of goods and services they offer to domestic consumers. Additionally, supply-side snags have already contributed to higher costs.
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Other areas that have already shown impact are the equity and bond markets. Rising US inflation pushed up the US Treasury bond yield, which once again means higher borrowing costs for Australian banks. Sharp rises in US bond yields can also hurt equity markets. Interestingly, the Australian share market has shown a negative impact after reports of high inflation in the US came out. The Fed’s massive rate hike of 50 basis points led to a decline in investor sentiment, with all sectors of the share market falling.
On the brighter side of things, rising inflation could also be a signal for higher wages in the Australian territory. Australian experts are nervously eyeing the upcoming wage data, which will shed more light on where the economy is headed. It may also hint at how aggressive RBA’s upcoming rate hikes may be.