RBA raises interest rates by 25 basis points to 3.85 per cent

The Reserve Bank of Australia raised interest rates for the first time in more than two years, conservatively adding $100 to monthly repayments on an average new mortgage, and warned of another possible hike with inflation expected to remain a challenge into late 2028.

Governor Michele Bullock and the central bank’s monetary policy board increased the cash rate by 25 basis points to 3.85 per cent, reversing a cut last August that was welcomed at the time as the start of a period of falling interest rates.

“The board now thinks it will take longer for inflation to return to target and this is not an acceptable outcome,” Ms Bullock told reporters in Sydney on Tuesday afternoon following her first two-day meeting of 2026.

“I know this is not the news that Australians with mortgages want to hear but it is the right thing for the economy.

“I understand they’re disappointed. I do understand for mortgage holders, this isn’t a great outcome.”

She gave her defence of the hike as the RBA released new forecasts showing inflation hitting 4.2 per cent by June, which would see price pressures at three-year highs.

“What’s also not great for them, or for anyone else, is if inflation remains elevated because every time they go to the shop, every time they go to buy their groceries, every time they go to get personal services, if inflation is high, that’s going to keep going up,” she said.

“We cannot allow inflation to get away from us again. It’s not just one thing. The pick-up is due to a combination of factors across a broad range of components and sectors. We don’t want this higher level of inflation entrenched.”

The first hike in more than two years will add $111 to monthly repayments on an average, new loan of $694,000.

Even without another hike, that would add $1332 to annual mortgage servicing costs, with Ms Bullock hinting another hike this year was possible if inflation was “more persistent”.

“We might have to raise further,” she said.

Variable mortgage rates will hit 6 per cent and the typical working couple will be charged $4157 a month on their home loan.

It was the first hike since November, 2023, and is a nightmare for borrowers who took advantage of three cuts last year to take on big mortgages.

The RBA’s forecast headline and underlying, trimmed mean inflation at 2.6 per cent in June, 2028, which would be above the mid-point of its 2-3 per cent target more than two years from now. Inflation is forecast to remain outside the target band until mid-2027.

“While inflation has fallen substantially since its peak in 2022, it picked up materially in the second half of 2025,” the RBA said.

“The board has been closely monitoring the economy and judges that some of the increase in inflation reflects greater capacity pressures.”

Headline inflation soared to 3.8 per cent at the end of last year, up from November’s 3.4 per cent annual pace, following the end of the Federal Government’s $75 quarterly electricity rebates.

Even without volatile items, the RBA’s preferred measure of price increases, trimmed mean inflation, was 3.3 per cent in 2025.

Soaring private sector demand was blamed for the price pressures, with high government spending not mentioned in a statement announcing the decision.

“Growth in private demand has strengthened substantially more than expected, driven by both household spending and investment. Activity and prices in the housing market are also continuing to pick up,” the RBA said.

Ms Bullock declined to say if excessive government spending was a problem, after shadow treasurer Ted O’Brien on Tuesday blamed Labor for the inflation surge.

“I’m not going to comment on fiscal policy because it’s an independent policy,” she said.

KPMG chief economist Brendan Rynne said high government spending had pushed up inflation.

“Importantly the RBA cannot be the only dog in this inflation fight,” he said. “Government spending, which has been adding to aggregate demand at the margin, needs to also be reined in to help better balance the demand and supply pressures driving the current push up in inflation.”

With unemployment now back at 4.1 per cent, the RBA has emphasised the jobless rate was lower than expected, after last year talking about preserving gains in the labour market during an era of prolonged productivity weakness.

“The unemployment rate has been a little lower than expected and measures of labour underutilisation remain at low rates,” the RBA said.

“While part of the pick-up in inflation is assessed to reflect temporary factors, it is evident that private demand is growing more quickly than expected, capacity pressures are greater than previously assessed and labour market conditions are a little tight.”

New forecasts have the jobless rate rising to 4.3 per cent by December 2026 and only edging up slightly to 4.5 per cent by December 2027.

But economic growth was forecast to weaken from an already below-average 2.3 per cent in December 2025 to just 1.6 per cent from June 2027 onwards.