Reserve Bank bullish on economy but worries about rising Australian dollar

The Reserve Bank has slightly downgraded its growth forecasts for the Australian economy while predicting a bounce back over the next few years as inflation returns to normal levels.

In its quarterly statement on monetary policy released this morning, the RBA sees growth in December 2017 of two to three percent edging back from 2.5 to 3.5 percent in the previous forecast in May.

"The economy is expected to grow at an annual rate of around 3 percent over the next couple of years which is a bit higher than estimates of potential growth," the RBA says.

After falling below the RBA's target band of 2 to 3 percent in the most recent quarter, the central bank seeing inflation returning to 2.5 to 3.5 percent by June next year.

The RBA cites business investment growth, a higher iron ore price and an unemployment rate of below 5.5 percent as evidence of its more positive outlook.

"The outlook continues to be supported by accommodating monetary policy and an improvement in the global economy," the statement says.

The Reserve Bank left the cash rate on hold at its August meeting judging the record low 1.5 percent level to be consistent with sustainable economic growth.

The RBA believes the pickup in inflation will be boosted by a declining capacity in the labour market which is expected to lead to a gradual increase in wages growth from the currently low levels.

The RBA believes the recent decision by the Fair Work Commission to increase minimum and award wages could "add a little" to wages growth in the September quarter.

"Inflationary pressures would instead emerge more quickly if workers seek to catch up after a long period of low wage growth," the RBA says.

It also believes increases in the tobacco excise over the next few years will help push inflation higher.

However, the RBA repeated concerns that the Australian dollar - which broke through 80 US cents earlier this week - has been at levels not seen since 2014.

The statement warns that its forecasts for growth and inflation rely on the exchange rate remaining around current levels.

"Further exchange rate appreciation would tend to generate a slower pickup in economic activity and inflation than currently forecast."

Despite the bullish outlook, the RBA is warning that continued slow wage growth could continue for "some time" and weigh on a consumption driven recovery.

"Some households may feel constrained from spending more out of their current incomes because of high levels of household debt," the RBA says.

"This effect would become more prominent if housing prices and other housing market conditions were to weaken significantly."

The RBA says while established real estate remains strong in Australian east coast cites, conditions have eased more so in Sydney rather than Melbourne.