Markets believe there's a strong chance the RBA will cut rates next month

Steve Dykes/ Getty Images.

Australian inflation is weak and moving further away from the RBA’s target level.

With Australian economic growth slowing sharply in the second half of last year, and despite unemployment remaining near the the lowest level in eight years at 5%, financial markets now expect the RBA to cut official interest rates in the months ahead.

According to Australian interbank futures, a 25 basis point reduction to the cash rate in May, taking it to just 1.25%, is now seen at around 60%.

By July, a 25 basis point reduction is now fully priced in.

Beyond the near-term, a further 25 basis point reduction to the cash rate is expected by February next year, with a small chance of a third reduction seen by the middle of 2020.

Australia’s cash rate has remained at 1.5% since August 2016.

In the year to March, underlying inflation rose by just 1.42%, the equal-lowest pace on record.

The annual rate is now moving further away from the RBA’s 2-3% inflation target, helping to explain why financial markets expect the bank to take action to prevent disinflationary forces from becoming outright deflation.

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