Forex Market: AUD/USD rises over 1% as RBA unexpectedly hikes rates, flags further tightening

AUD/USD surged more than 1% on Tuesday after the Reserve Bank of Australia delivered an unexpected rate hike, which brought borrowing costs to their highest level since April 2012.

The RBA raised its cash rate by 25 basis points to 3.85% at its May policy meeting earlier on Tuesday, while confounding market expectations of an extended pause.

This has been the 11th rate hike over the past year.

The RBA also raised the interest rate on Exchange Settlement balances by 25 basis points to 3.75%.

The central bank stressed that Australia’s inflation at 7% was still too high and some further policy tightening might be required to ensure inflation is brought back down to the RBA target in a reasonable time stretch.

RBA policy makers expect inflation to be at 4.5% this year and to decelerate to 3% in mid-2025.

At the same time, Australia’s labor market is still very tight, as the rate of unemployment remains at an almost 50-year low.

As of 8:00 GMT on Tuesday AUD/USD was gaining 1.02% to trade at 0.6698. During the late phase of the Asian session the major Forex pair went up as high as 0.6717, which has been its strongest level since April 21st (0.6745).

Bond Yield Spread

The spread between 2-year Australian and 2-year US bond yields, which reflects the flow of funds in a short term, equaled -81.4 basis points as of 5:15 GMT on Tuesday, up from -102.7 basis points on May 1st.