Australia’s central bank raises interest rate to 3.85% after 3 cuts

Australia’s central bank raised its benchmark interest rate by a quarter percentage point to 3.85% on Tuesday, responding to a concerning surge in inflation that has persisted despite three rate cuts last year.

The Reserve Bank of Australia’s decision marks the first rate increase since November 2023, when the cash rate climbed from 4.10% to 4.35%. Financial analysts had widely anticipated this move following government data released last week showing inflation had accelerated to 3.8% for the 12 months through December, up from 3.4% through November.

In its statement, the central bank emphasized that “inflation is likely to remain above target for some time.” The bank maintains a target inflation band between 2% and 3%, a range that has proven elusive despite earlier progress. While inflation had substantially declined from its peak of 7.8% in late 2022, it “picked up materially in the second half of 2025,” according to bank officials.

The bank also noted robust economic conditions despite global uncertainties. “Uncertainty in the global economy remains significant but so far there has been little or no depressing effect on the Australian economy; indeed, recent growth and trade in Australia’s major trading partners has surprised on the upside,” the statement said.

Treasurer Jim Chalmers acknowledged the decision would bring “difficult news” for millions of Australians with mortgages and businesses already struggling with cost-of-living pressures. He pushed back against critics who suggested government spending was fueling inflation, pointing to the bank’s assessment that blamed growth in private demand driven by household spending and investment.

The rate hike represents a significant policy shift for the Reserve Bank, which had reduced the cash rate by 25 basis points three times last year—in February, May, and August. The February 2023 adjustment had been Australia’s first rate cut since October 2020, reflecting what appeared to be improving inflation conditions at that time.

Throughout 2023, Australia’s inflation rate followed a volatile path, falling from 2.4% in the March quarter to 2.1% in June—briefly touching the target range—before rebounding to 3.2% in September and continuing upward to close the year.

Cherelle Murphy, EY Oceania Chief Economist, described the rapid policy reversal as unusual, noting, “It is certainly a possibility here obviously, that last rate cut wasn’t needed. But to be fair to the Reserve Bank, that was not obvious at all at the time.” She added that the previous cuts appeared justified based on encouraging inflation data that subsequently proved misleading.

Murphy expressed particular surprise at Australia’s strengthening labor market, with unemployment falling from 4.3% in November to 4.1% in December, suggesting economic resilience despite previous rate adjustments. “It does seem like the economy is running a little bit too hot,” she observed, and warned that further tightening might be necessary, adding, “I certainly wouldn’t rule out another rate hike later in the year.”

The central bank’s decision reflects growing concerns that inflationary pressures in Australia remain more persistent than previously expected, potentially requiring a more sustained period of monetary policy tightening to bring prices back within the target range. This development aligns with challenges faced by central banks globally, many of which have struggled to achieve soft landings while combating post-pandemic inflation surges.

For Australian households, particularly the significant portion with variable-rate mortgages, the rate increase will translate to higher monthly payments, adding pressure to household budgets already strained by rising costs across essential goods and services.