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Key points:
- As the end of the financial year approaches, it’s a good opportunity for businesses to budget for the new financial year ahead.
- The RBA’s latest forecasts are a good starting point, taking a slightly more pessimistic view of the growth and unemployment outlook due to expected negative impacts from the US Administration’s trade and tariff policies. While economic growth is likely to remain relatively slow in the first half of the financial year due to slower population growth and tariff effects, one positive is the RBA is more likely to reduce interest rates a further two to three times before Christmas, which will support a recovery in the first half of 2026.
The big forces affecting the economic outlook
Before making any forecast, it’s important to consider the biggest forces affecting the economic outlook, including:
- Costs. The cost of living and of doing business have both risen sharply in recent years. Even though inflation has moderated, this does not mean costs or prices have fallen, only that they are now rising at a slower rate. This is likely to remain a constraint on consumer spending and a pressure for business.
- President Trump’s trade and tariff policies. While Australia is not as directly affected as other countries, higher tariffs act like a tax and will contribute to slower global economic growth, though thankfully not as much as initially seemed likely.
- Slower population growth. Previous very strong population growth was an underappreciated factor supporting overall growth in the economy in recent years. The government’s student and immigration policies to lessen the housing crisis come at the cost of less support from this source.
- Lower interest rates. Interest rate reductions are always helpful in supporting economic growth, especially housing and construction, but their effect depends on the other forces impacting on the economy at the time.
- Low unemployment. This isn’t strictly a force as it’s more the result of all the other forces impacting on the economy. But the sustained very low rate of unemployment is also likely underappreciated as a support for consumer spending in this cycle.
Businesses also need to consider the effects of the longer-term Megatrends affecting the evolution of the economy and business namely: AI and technology; climate change and the energy transition; the ageing population; geopolitics and rising inequality.
The latest RBA forecasts on the economy
The Reserve Bank publishes detailed forecasts for the economy every three months. The latest set of forecasts was released in mid-May.
|
Forecasts* |
FY24/25 |
FY25/26 |
|
GDP |
1.8% |
2.2% |
|
CPI |
2.1% |
3.1% |
|
Wages |
3.3% |
3.1% |
|
Population |
1.7% |
1.3% |
|
Unemployment** |
4.2% |
4.3% |
|
Assumptions* |
FY24/25 |
FY25/26 |
|
Official Cash Rate |
3.85% |
3.4% |
|
TWI |
60 |
60.6 |
*qtrs to June
**As at end June
Source: Reserve Bank of Australia
The RBA and economists had broadly been forecasting a soft-landing for the Australian economy – a situation where a lower rate of inflation allowed interest rates to be reduced, supporting a strengthening of economic growth which keeps the unemployment rate low. That forecast was pretty much on track before April 2.
The RBA’s May forecasts were a little more pessimistic than the previous soft-landing forecast, with the Bank foreshadowing a less strong pick-up in growth over the coming year and for the unemployment rate to be a touch higher. That was due to the incorporation of negative global growth effects due to the US Administration’s trade and tariff policies, a situation that obviously remains highly fluid.
More positively, the slower growth and higher unemployment forecasts produce lower inflation forecasts. Importantly, the forecasts are conditioned on the assumption of two further interest rate reductions, which while not guaranteed, seem likely, and without which, the forecasts would be for even slower growth and higher unemployment.
Predictions for FY25/26 and potential business impacts
As we enter the new financial year, several factors are expected to influence businesses conditions. These trends are relevant not just for EOFY planning, but for strategic decisions around costs, staffing, investment, and pricing throughout the year.
- Economic growth is expected to remain subdued.
FY25/26 is likely to be another relatively soft year for economic growth, particularly in the first half. Slower population growth and the lingering effects of tariffs are expected to offset the positive momentum from anticipated interest rate cuts. While housing and construction activity may pick up in early 2026, businesses should be prepared for a cautious start to the year, with potentially slower demand and investment sentiment. - Inflation pressures will likely persist, particularly in energy and operating costs.
While the RBA has forecast underlying inflation to be close to its target of 2.5%, its headline CPI forecast is higher at around 3%. This reflects the end of electricity subsidies at the end of 2025. Along with recently announced annual electricity and gas price rises and increases in other government-determined costs, this is likely to keep cost increases higher than core inflation and a 3-3.5% outcome seems a reasonable assumption to make for the overall CPI and business costs. Businesses may need to consider operational efficiencies to try to reduce the impact of these pressures. - Wages growth remaining steady, but sector-specific factors apply.
Wages growth in the 3-3.5% range is likely given the Fair Work Commission’s recent 3.5% Minimum Wage and Award adjustment from 1 July. However, a firm’s wage bill depends also on the degree of unionisation in the industry in which it operates, whether an Enterprise Bargaining Agreement (EBA) is already in force and on the number of employees. The general trend is for slightly slower wages growth, but the still tight labour market means much slower wages growth is unlikely, and businesses may want to assess their exposure and plan accordingly. - Interest rates are likely to fall further
It’s expected that the RBA may reduce interest rates by another 25bps in both July and August, and probably once more later in 2025. If it were not for the uncertainty of how much previously higher initial tariff announcements had affected the May NAB Business Survey, a larger interest rate move in July could potentially be justified to ensure the RBA does not fall behind the economy. Three interest rate cuts by the end of 2025 seems likely. For businesses, this could mean lower borrowing costs and improved conditions for investment or refinancing, though it also reflects the cautious economic outlook which may influence customer behaviour. - The Australian dollar could strengthen slightly over the year.
Currently sitting around US$0.65, the AUD is considered undervalued relative to its longer-term average of US$0.75. A modest recovery to US$0.68–0.70 is possible, depending on movements in the USD, which has been affected by recent U.S. policy volatility. For businesses with international exposure—whether through imports, exports, or offshore contracts - you can speak to your Relationship Manager for assistance with foreign currency or trade finance.
By staying informed and proactive, your business can navigate the challenges and opportunities of the upcoming financial year with confidence and resilience. Considering factors such as economic growth, inflation pressures, wages, interest rates, and currency trends will be crucial in making strategic and operational decisions that support your business's success.
