AUD/USD rally to be tested by sharp decline in Australian CPI

Fed's dovish stance supports AUD/USD rally

At the start of a new week, the AUD/USD hovers close to its 2024 highs after securing a third consecutive week of gains.

Last week's rally followed comments from Federal Reserve (Fed) Chair Powell at Jackson Hole, which validated market expectations of Fed interest rate cuts before year-end. The US interest rate market is currently pricing in a 75% chance of a 25 basis point (bp) Fed rate cut and a 25% chance of a larger 50 bp cut in September.

RBA considers rate hikes and lower volatility boost AUD/USD

In contrast, on the home front, the minutes from the Reserve Bank of Australia’s (RBA) August board meeting confirmed that the RBA discussed raising rates again to address stubborn inflation, which is currently testing the RBA's patience.

In addition to a dovish Fed countering a hawkish RBA, gains in the AUD/USD were also supported by risk-seeking flows and lower volatility as concerns about a hard landing, which surfaced after July’s soft US non-farm payrolls report, continued to fade.

Key event: monthly CPI indicator

This week's key event for the AUD/USD will be Wednesday's monthly consumer price index (CPI) indicator. While this is likely to bring some relief to households grappling with the cost-of-living crisis, it could present a headwind for the high-flying AUD/USD.

RBA monthly CPI indicator

Date: Wednesday, 28 August at 11.30am AEST

Key Australian inflation measures released in late July were marginally softer than expected:

Headline inflation: rose by 1.0% in the June quarter (the consensus was +1.0%), bringing the annual rate to 3.8%, up from 3.6% previously. This marks the first increase in annual CPI since December
The trimmed mean: rose by 0.8% in the June quarter (consensus was +1.0%), allowing the annual rate to fall to 3.9% from 4.0% prior – marking the sixth consecutive quarter of lower annual trimmed mean inflation
The monthly CPI indicator: for June rose by 3.8% over the 12 months to June, easing from 4.0% in May. The core reading eased to 4.1% from 4.4% in May.

The RBA's board meeting minutes from August highlighted the slow pace of inflation's decline towards its 2-3% target: "Underlying inflation had fallen very little over the prior year in quarterly terms, and while the June quarter outcome had been in line with the staff's forecast, inflation was still some way above target."

Limited updates in new monthly CPI indicator

As July is the first month of the new quarter, this monthly CPI indicator will only provide updates on about 60% of the basket. Additionally, it will be skewed towards goods rather than the troublesome service components such as dining out, medical services, and transportation.

However, due to a sharp fall in energy prices following the start of the Federal Government's energy rebates, headline inflation in July is expected to fall to 3.3% year-on-year (YoY), edging closer to the RBA’s 2-3% inflation target.

This partially explains why the Australian interest rate market is currently pricing in 28 bp of RBA rate cuts by year-end and a cumulative 76 bp of cuts by May 2025.

Monthly CPI indicator chart

Source: Australian Bureau of Statistics Source: Australian Bureau of Statistics

AUD/USD technical analysis

The AUD/USD remains within a messy multi-month range after testing and rebounding from support near 0.6350 in early August.

AUD/USD weekly chart

Source: TradingView Source: TradingView

Last week's gains saw the AUD/USD test resistance at 0.6798, stemming from the mid-July high. While the AUD/USD remains below the 0.6798 resistance level, it may rotate back towards horizontal support at 0.6700.

If the AUD/USD can break above 0.6800, it could open up a test of the December high at 0.6871, before encountering multi-week trendline resistance at 0.6940, originating from the 0.8007 high in February 2021.

AUD/USD daily chart