RBA expected to cut interest rate as focus turns to inflation, growth outlook

• The Reserve Bank of Australia is set to cut the interest rate by 25 bps to 3.85% in May.
• Australian central bank Governor Michele Bullock's comments and updated projections will hold the key.
• The RBA policy announcements would spike up volatility, rocking the Australian Dollar.

The Reserve Bank of Australia (RBA) is set to lower the Official Cash Rate (OCR) by 25 basis points (bps) to 3.85% from 4.1% after concluding its May monetary policy meeting on Tuesday. The decision will be announced at 04:30 GMT.

The updated economic forecast will be published alongside the policy statement, while RBA Governor Michele Bullock's press conference will follow at 05:30 GMT.

With the rate reduction already priced in, traders will closely scrutinise the central bank's updated economic projections and Governor Bullock's comments for the next direction on interest rates and the Australian Dollar (AUD).

Focus on RBA's next interest rate move

The recent series of Australian economic data releases have pushed back against markets' pricing of more interest rate cuts by the RBA this year.

The Australian economy added 89K new jobs in April, beating estimates of a 20K addition by a wide margin, while March's reading was revised to show the addition of 36.4K jobs instead of 32.2K previously reported. The Unemployment Rate remained unchanged at 4.1% in April.

Meanwhile, Australia's first-quarter Consumer Price Index (CPI) rose 2.4% compared to the same period last year, coming in higher than the market expectations of a 2.2% increase, and unchanged from the 2.4% rise in the previous quarter.

Trimmed Mean CPI, the RBA's closely-watched inflation gauge, rose 0.7% on a quarter-over-quarter (QoQ) and 2.9% on an annual basis. The RBA has an inflation target range of 2%-3%.

The Wage Price Index advanced 3.4% annually in the first quarter, exceeding the estimate and the prior reading of 3.2%. On a quarterly basis, wages increased by 0.9%, surpassing the 0.8% forecast.

The nation's labor market remains strong while the underlying inflation is elevated, which could prompt the RBA to signal prudence on the policy outlook.

Besides, the revisions to the inflation and growth outlook will also help gauge the RBA's path forward on interest rates.

Previewing the RBA policy decision, TD Securities (TDS) analysts said: "Overnight indexed swaps (OIS) markets have also fully priced in a 25 bps cut. Of interest will be the RBA's assessment of the risks around tariffs. We see risks of minor downgrades to GDP, but doubt that CPI will shift materially."

How will the Reserve Bank of Australia decision impact AUD/USD?

RBA Governor Michele Bullock is expected to caution about the economic and inflation outlook, particularly in light of the US tariffs. Therefore, she could reiterate, "have to be careful not to get ahead of ourselves on policy." Bullock's cautious remarks could revive the momentum of the AUD/USD recovery.

If Bullock raises concerns about the economic outlook while hinting at further rate cuts, the Aussie is likely to come under intense selling pressure, resuming its downside toward the 0.6300 level.

Dhwani Mehta, Asian Session Lead Analyst at FXStreet, highlights key technical indicators for trading AUD/USD following the policy announcement.

"AUD/USD remains confined in a range between the 200-day Simple Moving Average (SMA) and 50-day SMA heading into the RBA showdown. The 14-day Relative Strength Index (RSI) holds above the midline, currently near 53, keeping the bullish potential intact." 

"A dovish cut by the RBA could send AUD/USD lower toward the 50-day SMA of 0.6333, below which the 100-day SMA at 0.6299 could be tested. If the selling pressure intensifies, the 0.6250 psychological level will be the line in the sand for buyers. Conversely, buyers need acceptance above the 200-day SMA at 0.6452 to resume the recovery toward the November 25 high of 0.6550, followed by the 0.6600 threshold," Dhwani adds.