Rising expectations of interest rate hikes in Australia boost the Australian dollar; could the increase reach 10% by 2026?

The latest market signals are here. Following Australia’s October household expenditure data exceeding expectations, traders are aggressively betting on the Reserve Bank of Australia (RBA) raising interest rates next year, and the AUD/USD exchange rate has rebounded accordingly. What is the logic behind this move?

Household Spending Surges, Inflationary Pressure Persists

Let’s look at the data first. Australia’s October household expenditure jumped by 1.3% month-on-month, far exceeding the expected 0.6%; the year-on-year increase reached 5.6%, significantly higher than the forecasted 4.6%. Investment bank Capital Economics’ Abhijit Surya straightforwardly states that this means the RBA will not only refrain from cutting rates further but may be forced to tighten policy earlier.

Even more concerning is the inflation data. Australia’s Consumer Price Index (CPI) for October rose by 3.8% year-on-year, still surpassing market expectations. What does this indicate? There are no signs of inflation weakening; instead, there may be an uptick.

Strong demand and supply pressures are the most headache-inducing combination for the central bank. The yield on Australia’s 3-year government bonds has already broken above 4%, reaching a new high since January this year, clearly indicating the market is preparing for higher interest rates.

Rate Hike Expectations Reverse Significantly

A key turning point has arrived. The RBA is scheduled to announce its interest rate decision on December 9. Although it has already cut rates three times this year, under the dual pressures of inflation and demand, the market expects the central bank to hold steady at 3.6%.

More importantly, expectations for next year have undergone a dramatic shift. After the household expenditure data was released, traders’ probability of the RBA raising rates in May 2026 jumped from 18% on Wednesday to 55%. What does this mean? The expectation has shifted from “possible rate cuts” directly to “very likely rate hikes,” and the rapid reversal is astonishing.

How Long Can the AUD Keep Rising?

This is the most critical question. Several major banks have provided forecasts for the AUD’s trajectory through 2026—

National Australia Bank (NAB) is the most optimistic, expecting AUD/USD to reach 0.67 by December 2025, and further rise to 0.71 by June 2026. This suggests a potential 6% increase over half a year.

Westpac’s forecast is more moderate, expecting AUD/USD to hit 0.69 in March 2026, rise to 0.70 in September, and reach 0.71 by the end of the year. The pace is relatively steady, but the target remains consistent.

ING Group is more conservative, projecting AUD/USD to rise to 0.68 in Q2 2026, and only reach 0.69 by year-end. This forecast hints that the central bank’s rate hikes may not materialize as quickly as expected.

One Question Worth Considering

What does the rising expectation of Australian rate hikes fundamentally reflect?

First, that domestic demand in Australia is indeed strong, as evidenced by the household expenditure data. Second, inflation remains sticky, and the central bank has little room to loosen policy further. Third, market expectations for the US dollar’s trajectory may also be changing—if the dollar isn’t so strong, the AUD will find it easier to appreciate.

From a trading perspective, if the 2026 rate hikes are confirmed, the AUD still has about 10% upside from now until mid-next year. But this depends on inflation not suddenly falling back and the central bank not reversing its policy stance again.

The key upcoming events are the December 9 rate decision and subsequent monthly economic data releases. Any change in these factors could break the AUD’s upward momentum.