Statement on Monetary Policy – February 20253. Outlook

3.1 The global outlook

The global economic outlook is highly uncertain; various US policies and responses by other countries could materially affect trading partner growth and inflation outcomes.

Increased tariffs between the United States and its major trading partners, along with proposed US fiscal and deregulation policies, pose material risks to the global economic outlook over 2025 and 2026. Higher tariffs between the United States and China are expected to cause some disruption to global trade and supply chains (see Box A: Implications of US Policy Settings for Financial Markets). However, there is considerable uncertainty about the breadth and extent of tariffs and retaliatory measures, as well as the extent of fiscal support that affected economies may use to offset the effect of the tariffs on growth. This uncertainty is likely to weigh on business conditions. Changes to US fiscal and immigration policies are also expected, but the range of possible outcomes is wide.

Because of the high policy uncertainty, there has so far been little change in Consensus forecasts since November. Year-average forecast GDP growth for Australia’s major trading partners is unchanged in 2025 at 3.4 per cent and slightly lower in 2026 (Graph 3.1). Consensus forecasts for US and Canadian growth have been revised downwards modestly next year on the back of the risk of higher tariffs, though more stimulatory fiscal policy appears to have provided a partial offset. Most forecasters appear to have incorporated at least some increase in tariffs on China and the prospective extension of the US tax cuts in the 2017 Tax Cuts and Jobs Act; however, there is likely wider divergence about the impact of other government policies, the effect of uncertainty on spending and investment decisions, and the size and extent of any additional US tariffs.

We have revised our China growth forecast for 2025 higher, although growth is expected to be a little slower than last year. The upward revision brings our forecast to 4.7 per cent and reflects the authorities’ recent shift to a more pro-growth stance and a likely growth target this year of ‘around 5 per cent’. Our central forecast assumes the average tariff rate on US imports from China will continue to increase gradually by another 10 percentage points from what has recently been announced, but the negative effects of higher US tariffs and elevated uncertainty on growth in China are expected to be more than offset by increased fiscal policy support. 2026 growth forecasts are unchanged at 4.5 per cent, implying a small further step down in growth.

We have undertaken illustrative scenarios on larger increases to US tariffs on Chinese imports and different policy responses by Chinese authorities to outline the key channels through which there could be downside risks to Australian growth (see Key risk #2, below).

3.2 Key domestic judgements

The central forecasts incorporate many judgements, such as the choice of models used and whether to deviate from the models given the signal from recent data or qualitative information from liaison. These judgements are considered and debated extensively throughout the forecast process. The three most important judgements for our current assessment of the economic outlook are discussed below.

Key judgement #1 – Labour market conditions are not expected to ease much further.

At the time of the November Statement it was expected that the unemployment rate would continue to edge higher through the December quarter and over the first half of 2025 as the labour market continued to adjust to the weak GDP growth in 2024. However, the unemployment rate declined a little in the December quarter and leading indicators suggest that the earlier easing in labour market conditions has largely stalled. We judge that the unemployment rate will increase a little further, before stabilising at 4¼ per cent; this is around ¼ percentage point lower than forecast in November.

But there are risks around the outlook. Some labour market indicators suggest the unemployment rate may actually decline a little further in the near term, whereas the labour market may ease more than forecast if the expected recovery in private demand does not materialise.

Key judgement #2 – Household consumption growth has started to recover alongside the ongoing pick-up in real household incomes.

The recovery in consumption appears to be underway, but there are material uncertainties around the scale and timing of that recovery. Consumer spending (abstracting from the effects of electricity subsidies on household consumption) appears to have picked up in the December quarter by more than we previously expected, according to timely but partial indicators. But changing seasonal patterns driven by the increasing prevalence of discounting make it difficult to gauge how much of this pick-up was temporary, and how much will be sustained. Consistent with our updated assessment that it has taken households a little longer to adjust to the recent lift in real incomes, we have assumed that some of the increase was temporary and driven by Black Friday and end-of-year sales. This assumption has contributed to the downward revision to consumption growth in the first half of 2025.

It is possible that more of the pick-up in spending in the December quarter reflects underlying momentum than we have assessed, and that consumption picks up more strongly than expected in the period ahead. There is also a risk that the December quarter outcome mostly reflects consumers concentrating their spending around promotional periods more than they have in the past. If this is the case, spending growth may be softer than expected in 2025, continuing the trend from the past year (see Box B: Consumption and Income Since the Pandemic).

Key judgement #3 – Notwithstanding recent progress on disinflation, conditions in the labour market are expected to remain tight, which (on the market path for the cash rate) would keep inflation a little above the midpoint of the target range.

The outlook for wages growth and inflation is sensitive to our assessments of the degree of balance between aggregate demand and supply in the economy and in the labour market; however, these assessments are subject to considerable uncertainty. Our central assessment is that the labour market is still tight, while the broader economy is estimated to be closer to balance.

The forecast anticipates there would be capacity constraints in the labour market over the forecast period if policy followed the market path. By contrast, our forecasts for GDP growth and the outlook for potential output would suggest that some parts of the economy will be closer to balance (or have spare capacity). Weighing all of this together, the central forecast is for inflation to stabilise at a bit above the midpoint of the target range. This is a change from the judgement at the time of the November Statement where we had forecast that the labour market and economy would gradually return to balance this year, bringing inflation gradually back to the midpoint of the target range.

However, there are risks around this judgement. It is possible that we should be taking more signal in the inflation forecast from the parts of the economy where there are fewer capacity constraints. The combination of stronger-than-expected labour market outcomes but weaker-than-expected inflation may also mean there is more capacity in the labour market than embodied in the central projection (see Key risk #1, below). These would see inflation decline more quickly and by more than forecast.

3.3 The domestic outlook

GDP growth in Australia is expected to pick up over 2025.

Growth in private demand is expected to recover over the coming year, settling at around the estimated historical trend growth rate at the end of 2025. This pick-up is expected to be driven by an increase in household consumption growth following the recovery in real household disposable incomes that began in late 2023. The assumed easing in interest rates (as implied by financial market expectations) will also provide a boost to private demand. With growth expected to return to trend at the end of 2025, we judge that there will be limited further easing in capacity constraints across the economy (see Chapter 2: Economic Conditions).

The forecasts are conditioned on a cash rate path derived from financial market pricing; it is assumed that the cash rate will begin declining in early 2025 and reach around 3.5 per cent by the end of the forecast period. Compared with the November Statement, the market path implies policy will be eased sooner.

The pick-up in private demand is expected to be a little less pronounced than forecast three months ago, driven by a softer outlook for growth in consumption. Recent data suggest that growth in household spending in the December quarter was stronger than we previously expected (Graph 3.2). As outlined above, some of this strength likely reflects changing seasonal patterns and we expect growth momentum to slow a little in the first half of 2025. Together with a softer outlook for household wealth (owing to weaker-than-expected growth in housing prices recently), growth in consumption is expected to be slightly softer over 2025 and 2026 than was forecast in the November Statement.

The outlook for private investment is similar to the November Statement. Business investment is expected to remain around current levels until mid-2025. Weak demand for new dwellings – partly related to the effect of earlier increases in the cash rate on households’ borrowing capacity – is expected to continue to constrain growth in dwelling investment over 2025. Private investment is forecast to pick up from the end of the year, reflecting the assumed decline in the cash rate, a further easing in construction costs, continued digitisation of firms’ operations and a large pipeline of infrastructure work related to the renewable energy transition.

Public spending is expected to support aggregate economic growth by more than forecast three months ago. The public demand forecasts incorporate the upgrades to expenditure projections included in the most recent federal, state and territory governments’ mid-year budget reviews. A significant share of the anticipated additional expenditure is for social benefits to households and employee expenses. Budgets also imply robust growth in public investment projects until mid-2026 (Graph 3.3).

The modest depreciation of the trade-weighted exchange rate since November, if sustained, is expected to boost GDP growth a little over 2025 (Graph 3.4). The trade-weighted index has depreciated by 2 per cent since November and the forecasts assume that the exchange rate will remain unchanged at its current level over the forecast period. Other things equal, a lower exchange rate implies that imports become more expensive compared with goods and services produced in Australia, which will weigh on imports growth as domestic households and firms substitute away from foreign products. The lower exchange rate should also provide a little support to growth in exports for the same reason; Australian produced goods and services become relatively cheaper for international buyers.

Labour market conditions are not expected to ease materially from here, remaining tighter than levels consistent with our central estimates of full employment.

Labour underutilisation rates are expected to increase only slightly from current levels (Graph 3.5). The unemployment rate is forecast to increase marginally over the first half of 2025 and then stabilise around 4¼ per cent. Most leading indicators such as job vacancies and hiring intentions point to a stabilisation around current rates.

Employment growth is forecast to ease gradually to a pace consistent with growth in the working-age population. Non-market sector employment growth, which has been the driver of stronger-than-expected labour market outcomes over the past year, is expected to continue supporting employment growth in the near term before easing. However, employment growth in the market sector is expected to continue to recover in line with the pick-up in GDP growth, partially offsetting the projected easing in non-market sector employment growth. Participation in the labour force is expected to continue to increase gradually over time, supported by ongoing tightness in the labour market and the continued trend of increased participation by women and older workers.

Growth in nominal wages is expected to ease only slightly in year-ended terms over the forecast period, as the labour market eases only a little.

Wage pressures in the private sector are expected to ease only slightly over the forecast period as labour market conditions have largely stabilised and remain stronger than previously forecast. Public sector wages growth is forecast to pick-up in the near term, with several large agreements now expected to flow through in the near term, before moderating gradually over the rest of the forecast period.

In addition, announced administered decisions for several large awards are expected to contribute around ¼ of a percentage point to total annual wages growth, on average over the next two years.^[1] These increases may also contribute to increased quarterly volatility in the Wage Price Index (Graph 3.6).

Growth in unit labour costs is expected to moderate over the forecast period from an elevated rate (Graph 3.7). Growth in nominal unit labour costs (ULCs) – the measure of labour costs most relevant for firms’ cost of production and so for inflation outcomes – is expected to continue to ease. The easing in ULCs is driven by an assumption that productivity growth gradually picks up, as nominal wages growth is expected to remain broadly steady. Growth in ULCs is expected to reach the rate consistent with inflation being sustainably at the midpoint of the target range towards the end of the forecast period.

Labour productivity growth is assumed to pick up gradually over the next two years but to be weaker than previously anticipated; there is significant uncertainty around the longer term outlook. The strength in non-market sector employment growth has had a small drag on measured aggregate productivity growth in recent years, given sectoral differences in measured productivity. This effect is likely to continue. However, the health care industry is also drawing labour predominantly from lower productivity jobs in the market sector, which is likely to be muting the overall drag on aggregate productivity (see Box C: Health Care Employment and its Impact on Broader Labour Market Conditions). Productivity growth is expected to pick up to reach its long-term (excluding the pandemic) average rate. The forecasts assume multifactor productivity (MFP) growth will rebound over the next couple of years, which would be consistent with increased rates of technology adoption, improved reallocation of labour between low- and high-productivity firms, improved labour quality and improved quality of job matching. However, there are risks to the outlook for productivity that could have implications for growth and inflation outcomes (see Key risk #3, below).

Under the current market path for the cash rate, year-ended underlying inflation is expected to ease further in coming quarters, and faster than was expected in the November Statement, before stabilising at around 2¾ per cent.

Underlying inflation is expected to be a bit above the midpoint of the 2–3 per cent range from late 2025 (Graph 3.8). The forecast moderation in year-ended underlying inflation in coming quarters is faster than was expected at the time of the November Statement, in part reflecting the weaker-than-expected December quarter outcome. Some of this weakness is expected to persist for a while, particularly for inflation in new dwelling costs and rents. But part of it is expected to reverse in the March quarter as several cost-of-living policies are removed and because of some known administrative price increases. Overall, if the cash rate follows the path implied by financial markets, underlying inflation is expected to be a little above the midpoint of the 2–3 per cent range from late 2025 onwards. This is higher than was forecast in November. This reflects our assessment that the pick-up in GDP growth will flow through to tighter labour market conditions than we previously expected and will sustain some upward pressure on inflation. Inflation expectations are assumed to remain consistent with achieving the inflation target over the long term.

Measured in headline terms, year-ended CPI inflation is expected to increase over the second half of 2025 to be above 3 per cent, before returning to the target range in the second half of 2026 (Graph 3.9). This volatility in the year-ended profile is largely due to the currently legislated unwinding of cost-of-living measures, such as electricity rebates, over 2025. Headline inflation is forecast to converge towards underlying inflation once these temporary factors have passed. Because headline inflation can be affected by large swings in the prices of individual items, we will continue to pay close attention to underlying measures as an indicator of underlying momentum in consumer price inflation.^[2]

Services inflation has eased and is expected to moderate further over 2025, before strengthening over the rest of the forecast period. Market services inflation is expected to moderate gradually. Information from liaison suggests services firms expect non-labour cost growth to remain elevated and some gradual easing in labour cost growth over the year ahead. An increase in inflation for administered items (excluding utilities) is also expected to drive strength in services inflation over the second half of the forecast period, alongside strong input cost pressures, the unwinding of cost-of-living support and the child care correction dropping out of the year-ended calculation.^[3]

Retail goods inflation is expected to moderate gradually during the forecast period. In the near term, the moderation in retail inflation is due to soft consumer demand conditions making it difficult for retailers to pass on higher input costs. The pace of disinflation is expected to be slightly slower than in the November Statement, partly reflecting higher import prices of consumption goods due to the recent modest exchange rate depreciation.

3.4 Key risks to the outlook

Key risk #1 – We have misjudged how much excess demand there is in the labour market.

The central forecast is for labour market conditions to remain tight over the forecast period. However, there is a risk that we have overestimated the extent of excess demand in the labour market. We have incorporated some of this risk by applying a little downwards judgement on the inflation profile.

First, it is possible that we have not taken enough signal in our inflation forecasts from the weaker-than-expected inflation outcome in the December quarter (and/or too much signal from the recent stronger-than-expected labour market data). If the inflationary pulse in the economy proves to be as soft as the December quarter data on their own would suggest, it could imply that we had underestimated how much supply-side constraints were contributing to inflation over the past year and how quickly these had now unwound. It could also imply that the modest easing in the labour market over the past year or so had been adequate to bring the labour market into balance – that is, we are currently around estimates of full employment in the economy. Overall, while we have taken signal from some parts of the weaker inflation outcome late last year, such as for the housing-related components, we judge that recent disinflation has been partly driven by factors that are likely to unwind both in the near term (e.g. subsidies have played a role) and in the medium term as GDP growth picks up.

Most labour market indicators, such as the vacancies-to-unemployment ratio and the share of firms reporting the availability of labour as a significant constraint, are consistent with indications from our models that the labour market is tight. However, one factor that could be signalling less tightness in the labour market is the recent decline in the rate of job-switching in the market sector, which suggests there may have been less wage-based competition among firms to retain staff. This decline might indicate less upward pressure on wages than implied by other measures of labour market tightness. This could imply that private sector wages growth, after stabilising in 2024, could begin to moderate again. Our central forecast for wages growth to stabilise around current rates is implicitly consistent with an increase in job-switching as market sector employment growth picks up.

Notwithstanding the overall moderation of wages growth since mid-2023, we assess that the current pace of wages growth is not consistent with sustaining inflation at the mid-point of the target band. However, if trend productivity growth is higher than we assess, or firms and workers are more forward-looking and make wage decisions based on future higher trend productivity than we expect, then recent wages growth outcomes may be signalling less labour market tightness than anticipated.

Relatedly, recent wages growth outcomes may be the result of wages ‘catching up’ to the increase in consumer prices over recent years rather than tightness in the labour market. Our models adjust for some of this (particularly around the large award wage increases) but it is possible that we have attributed too much of the recent growth in wages to labour market tightness rather than real wage catch up.

While we do not assess there is yet a compelling case to change our estimates of full employment, our central forecasts for wages growth and inflation incorporate some downwards judgement to reflect the uncertainty at this juncture.

Key risk #2 – An intensification of global trade tensions presents uncertainty to the domestic economic outlook.

Elevated global uncertainty across several policy dimensions means that forecasting global growth is more challenging than normal. To illustrate the main transmission channels through which Australia could be adversely affected by changes to global policy settings, we have run scenarios around higher US tariffs on China and possible Chinese responses, given China is Australia’s largest trading partner. We conducted this scenario analysis using the Global Economic Model from Oxford Economics and MARTIN (the RBA’s macroeconometric model) but note these modelling frameworks inherently find it difficult to quantify the effects of uncertainty or complexities that may arise from disruptions to global supply chains, particularly in the more extreme scenarios.

The scenarios are built on our central forecast for China (described above), which includes both the already announced increase in tariffs as well as a further 10 percentage point increase, with fiscal support fully offsetting the drag on Chinese GDP growth.

• Scenario A: The United States increases tariffs on Chinese imports by 20 percentage points on top of what is assumed in the central forecast. The Chinese authorities choose not to respond with any policies to the tariffs.
• Scenario B: Chinese authorities respond to the 20 percentage points increase in the tariffs with fiscal stimulus to offset the impact of the tariffs on Chinese growth.
• Scenario C: This is an escalation scenario in which US tariffs are increased by 40 percentage points on Chinese imports on top of the baseline. The substantial increase in tariffs is assumed to lead to a sharper fall in sentiment and would sharply lower Chinese growth. In this scenario, Chinese authorities respond to the loss of international competitiveness with both the fiscal stimulus in scenario B as well as a 10 per cent depreciation of the renminbi against the US dollar.

The main transmission channels through which Australia would be affected are:

• Trade – both the direct impact of weaker growth in China (and globally) on Australian trade and the resetting of trade relationships/trade dispersion. The slowdown in Chinese growth would lead to less foreign demand for many Australian products. Commodity prices would also decline if Chinese growth declines or if the composition of growth becomes less steel-intensive, given China’s outsized role in global commodity markets. This would reduce export and income growth in the Australian economy. Additionally, tariffs would alter relative competitiveness in trade, which would result in a shift in trade patterns. Given the complexity of these shifts, the modelling has not fully accounted for this channel; nevertheless, we would expect this would create near-term disruptions to supply chains and lower productivity. In the near-term, China may also look to redirect exports originally intended for the United States to other destinations, such as Australia, possibly by lowering prices.
• Negative impact of increased uncertainty and lower confidence on investment and household spending. The greater global uncertainty would lower equity prices and increase corporate bond spreads. Weaker global consumer and investor confidence will further dampen demand for Australian exports. As highlighted in previous RBA analysis, the MARTIN model does not include measures of consumer or business confidence, which are likely to amplify the effects on the economy over the direct channels above.^[4] We expect that risks to business investment and consumption would remain to the downside if this was fully accounted for.
• Financial linkages, including the response of the Australian dollar. The Australian dollar would play a key role in the adjustment to such a shock. Typically the exchange rate depreciates when there are negative foreign shocks or an increase in global risk aversion, which improves Australia’s international competitiveness. The exchange rate is assumed to depreciate in all scenarios. In scenario C, the decision by Chinese authorities to depreciate the renminbi would limit the extent of the depreciation of Australia’s exchange rate in trade-weighted terms. Nevertheless, the heightened uncertainty and worsening investor confidence under such an escalation of the trade conflict results in a stronger depreciation of the Australian dollar against other major trading partners than in the other scenarios. As a result, the Australian dollar depreciates by 2–3 per cent on average, in trade-weighted terms, over the scenario C period; this is a larger depreciation than in the other scenarios.

For each of the scenarios, we find the effects on Australian GDP relatively small (up to a 0.2 percentage point decline over 12 months). While this may be a surprising result, particularly given the very weak global backdrop in scenario C, this reflects the significant role the exchange rate tends to play in offsetting external shocks to trade for Australia. We also assume no change in Australian monetary or fiscal policy in response to the shock.

In scenario C, private demand declines significantly relative to the baseline, driven by declines to consumption and business investment as a result of greater uncertainty, heightened risk aversion and lower wealth. The weaker private demand is largely offset by stronger net exports, as the depreciation of the Australian exchange rate boosts exports demand and reduces imports. The downturn in consumption and investment, which tends to be more labour intensive, results in a weaker labour market. The effect of the higher unemployment rate largely offsets some of the boost to inflation from the exchange rate depreciation.

We note our modelling does not capture all the channels through which this shock will affect Australia. Any additional shock to Australia’s economy, beyond global confidence shocks, may not be adequately captured and we think there are downside risks to the scenario results.

Key risk #3 – Weak productivity growth could be more persistent than expected.

Our forecasts for output and hours worked currently imply that labour productivity growth returns to longer run average annual rates of around 1 per cent by the end of the forecast period, driven by strong growth in MFP. This is higher than rates observed over the five years leading up to the pandemic, a time in which labour productivity and MFP grew by around 0.5 per cent per year. If this does not eventuate, the supply capacity of the economy will grow more slowly over the forecast period than currently expected.

The implications for inflation are somewhat uncertain and depend crucially on how the economy adjusts to this lower rate of productivity growth. If the growth of aggregate demand and of wages adjust quickly to this slower growth in the supply side of the economy, there will be limited inflationary effects and the implications for monetary policy will therefore also be limited. However, if demand and wages adjust slowly, there may be additional inflationary pressure.

Noting the challenges around predicting trend productivity growth, we are examining international and domestic evidence to consider whether the weak productivity outcomes are more structural and/or persistent than assumed.

3.5 Detailed forecast information

Table 3.1 provides additional detail on forecasts of key macroeconomic variables. The forecast table from current and previous Statements can be viewed, and data from these tables downloaded, via the Statement on Monetary Policy – Forecast Archive.

Endnotes

The Aged Care Stage 3, Early Childhood Education and Care, and Nurses Award increases are expected to materially raise wages for workers covered by those awards and will affect wages growth in both the private and public sectors. [1]

See RBA (2024), ‘Box C: Headline and Underlying Inflation’, Statement on Monetary Policy, August. [2]

For more information, see ABS (2025), ‘CPI Release – December Quarter 2024’; ABS (2024), ‘Forthcoming Correction to Child Care Costs in the Consumer Price Index’, Media Statement, 19 November. [3]

Guttmann R, K Hickie, P Rickards and I Roberts (2019), ‘Global Economy Spillovers to Australia from the Chinese Economy’, RBA Bulletin, June. [4]