On Friday the Reserve Bank of Australia (RBA) released its quarterly statement on monetary policy. According to BA Merrill Lynch, the statement showed a further upgrade to the RBA's tightening bias above and beyond the board decision last Tuesday to keep the cash rate unchanged.

BA-ML notes the statement was very explicit in pointing out while a mildly restrictive policy stance in place since late last year had been appropriate, further rate hikes would be needed in the future if the RBA's central forecasts panned out.

The main point of interest with respect to RBA forecasts, according to ANZ Bank chief economist Warren Hogan, lies in inflation estimates. The RBA is now forecasting inflation of 3.0% this year and in 2012, followed by a rise to 3.25% in 2013.

Hogan notes this is a rise of 0.25% across each time horizon through 2012. The changes reflect higher commodity prices, an acceleration in global manufactured prices, a higher starting point for inflation and a potentially tighter labour market.

Westpac chief economist Bill Evans suggests the statement is an indication by the RBA that current market pricing with respect to interest rates is too benign. This is partly a reflection of a more optimistic economic growth outlook, RBA forecasts calling for growth in 2011 of 4.25%.

To Evans, the RBA statement indicates an increase in interest rates is now very close. Having argued the next rate move would be in the September quarter, Evans now sees a move in June as more likely. Hogan at ANZ has reacted similarly, now seeing the next hike coming in June rather than July as had been anticipated.

JP Morgan continues to have an August rate hike as its base case assumption but concedes a move by the RBA may come sooner. This is because the major risk to the current RBA assumptions stems from the labour market and the potential for some upward pressure on wages.

Citi agrees, pointing out the RBA's higher inflation forecasts indicate little room to tolerate any upside surprises to wage and cost pressures. This would likely come from an anticipated increase in mining and energy investment.

If there is any upside surprise in upcoming employment and wage data prior to the RBA's June board meeting, JP Morgan sees scope for a significantly increased likelihood of a rate hike earlier than August.

It is Citi's view the labour market will be a good indicator of RBA policy, as there remain conflicting signals from what is still a two-speed economy. Given this, Citi suggests a near-term rate hike will require a further fall in unemployment.

The point made by RBS Australia on the back of the RBA's statement is interest rates are still likely to go much higher, as a solitary rate rise is unlikely to be enough to bring inflation back inside the RBA's target band.

National Australia Bank agrees, forecasting two hikes in rates of 0.25% each in either June or July and then September. This compares to previous expectations for hikes in August and November. St George Bank similarly expects two hikes this year, with chief economist Besa Deda seeing increased risk the first of these hikes will come in June.

Citi is not so sure, given an expectation next week's unemployment reading for April will show relatively steady numbers. If this is the case, Citi sees no change in the cash rate prior to August.

Over at Westpac, Evans remains of the view a rate hike in coming months will be a one-off for 2011. This reflects growth expectations a little weaker than those of the RBA, which will allow for any subsequent hike in the cash rate to be delayed until the June quarter of 2012.

According to RBS Australia, the odds of a June cash rate increase now stand at 37%, rising to 52% in July and 79% in August. The market is forecasting a peak in interest rates of about 5.25%, expected to be reached during the September quarter of next year.

The risk to this expectation appears to be to the upside, as ANZ's Hogan for example anticipates a peak in the cash rate of 5.75% late in 2012.

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