The country will avoid slipping into recession even as growth slows sharply under pressure from high interest rates, Reserve Bank of Australia governor Philip Lowe has said.
Announcing the central bank's decision to hold monetary policy steady for at least the next month, Dr Lowe said although inflation was still "too high", the 12 interest rate hikes implemented since May last year were working to calm demand.
While holding out the possibility of more rate rises, the RBA governor scotched speculation that the central bank could drive the economy into recession.
"The [RBA] board is still expecting the economy to grow as inflation returns to the 2 to 3 per cent target range," Dr Lowe said, while admitting the path to achieving this outcome was "a narrow one".
Earlier, borrowers were given an interest rate reprieve after the Reserve Bank decided to leave its cash rate at 4.1 per cent.
The central bank's decision followed the release of data showing inflation slowed to 5.6 per cent in May and amid mounting expectations the economy will slow sharply in the second half of the year.
In his statement accompanying the decision, Dr Lowe said intertest rates were working, with growth slowing and conditions in the labour market easing, though admitting they remain "very tight".
"The higher interest rates are working to establish a more sustainable balance between supply and demand in the economy and will continue to do so," he said.
The RBA governor said this, combined with uncertainty about the economic outlook, had convinced the central bank board decided to hold rates steady.
But Dr Lowe warned more interest rate hikes "may be required", and the Reserve Bank will be watching the economy's performance closely.
"Inflation is still too high and will remain so for some time yet," the governor cautioned, emphasising that "the board's priority is to return inflation to target within a reasonable timeframe".
"The decision to hold interest rates steady this month provides the board with more time to assess the state of the economy and the economic outlook and associated risks," the RBA governor said.
The release of June quarter inflation figures on July 26 looms as a key development in helping determine whether there are more interest rate hikes.
Acting Treasurer Katy Gallagher said although the rate pause was welcome, "we understand that many people remain under strain from rising mortgage payments and cost-of-living increases".
Senator Gallagher said inflation was moderating but remained "higher than we'd like", and the government's budget was aimed at helping reduce price pressures while providing cost-of-living relief "where we could".
The minister rejected criticisms the government should be doing more to bring inflation down, arguing that "we're working alongside the Reserve bank, not against it".
The senator said the cost-of-living relief had been "carefully calibrated".
Senator Gallagher, who is also Finance Minister, said a bigger than expected surplus for 2022-23 - tipped to exceed $20 billion - would be used to help rebuild fiscal buffers in the budget "for when the next time comes around that you need [them]".
"Getting the budget back in shape is a core economic priority for the government," she said.
But opposition treasury spokesman Angus Taylor said the government needs to do more to combat inflation.
"Solving this inflation crisis cannot be left to the Reserve Bank," Mr Taylor said. "It has its foot on the accelerator while the Reserve Bank has its foot on the brake."
A panel of leading economists warn three rate hikes are possible in the next six months, taking the official cash rate to 4.85 per cent, its highest point in almost 15 years.
The Australian National University's RBA Shadow Board, which includes former Reserve Bank board member Warwick McKibbin as well as prominent academic and private sector economists, thinks there is a 60 per cent chance of such a rate increase. If implemented, it means almost $1750 a month will have been added to repayments on a standard $600,000 mortgage since the RBA began hiking rates in May 2022.
The prospect of further rate hikes will do nothing to lift the mood of consumers which has already taken a battering from the succession of 12 rate hikes since May last year.
The ANZ-Roy Morgan Consumer Confidence index dropped 0.8 per cent last week to 74.1 points and its four-week average of 73.5 points is the second weakest reading in the last 30 years.
ANZ senior economist Adelaide Timbrell said the only time confidence has been lower was in the first month of the COVID-19 pandemic.
Business sentiment is also softening. A National Australia Bank survey found businesses became pessimistic about the outlook in May and studies by Judo Bank have identified a similar slide in private sector confidence.
In its latest assessment of the outlook, consultancy KPMG expects growth to slow sharply in the second half of the year and predicts the economy will stagnate in 2024 before staging a soft recovery the following year.
KPMG chief economist Brendan Rynne forecasts the economy to slow to 1.2 per cent by December, down from 3.7 per cent late last year. It will then expand by just 0.2 per cent in first half of 2024 and shrink by the same amount in second half, Dr Rynne expects.
Dr Rynne said even if the economy does not meet the technical definition of a recession - two successive quarters of contraction - it will feel like one for many.
As a result, the KPMG economist predicts the jobless rate will rise sharply next year to reach 4.8 per cent - 0.4 of a percentage point higher than anticipated by the Reserve Bank.
"This outlook reflects the definition of economic stagnation, with virtually zero growth and rising unemployment," Dr Rynne said.
He called on the government to do more to help bring inflation down.
"In terms of fighting inflation, it seems the RBA is doing most of the heavy lifting, with fiscal policy settings at best neutral or, arguably, unhelpful in reducing aggregate demand," Dr Rynne said.
"Fiscal policy has its foot off the accelerator and is coasting. It's not enough. Fiscal policy needs to do more to help bring inflation back to the target band."
Mr Taylor agreed, saying, "we shouldn't be relying on the Reserve Bank to do all the work to take pressure off inflation. We need to have every lever of government being pulled to take pressure off inflation. That's not what we're seeing".
He claimed government had spent an extra $185 billion since coming into government and "that's fuel on the fire for inflation ... it's putting the foot on the accelerator at exactly the time when the Reserve Bank is putting the foot on the brake".
A spokesperson for Treasurer Jim Chalmers rejected Mr Taylor's claims.
"Angus Taylor has absolutely zero credibility when it comes to the budget," the spokesperson said.
"The government is cleaning up the budget mess we inherited and our responsible approach is helping address the inflation challenge in our economy - a fact that's been acknowledged by the Reserve Bank Governor.
"We know Australians are doing it tough which is why we're providing cost-of-living relief in a responsible and targeted way which isn't adding to inflation."