The Reserve Bank has maintained an easing bias while acknowledging that a sharp fall in the Australian dollar and previous interest rate cuts supported its decision to keep the cash rate on hold this month.
The central bank said in its July board minutes, released on Tuesday, that it regarded its "current stance of policy to be appropriate for the time being".
"The board also judged that the inflation outlook, although slightly higher because of the exchange rate depreciation, could still provide some scope for further easing, should that be required to support demand," the Reserve Bank said.
The Reserve's deliberations, which led to the cash rate remaining at 2.75 per cent, were interpreted by financial markets as less dovish than its first statement after the board meeting. The Australian dollar rose half a cent to US91.66¢, while markets pared back their expectations of a rate cut next month from an almost 70 per cent chance to a 54 per cent chance. The dollar was buying US91.82¢ late on Tuesday.
"Overall, the rates and currency outlook are intertwined," HSBC's chief economist for Australia, Paul Bloxham, said.
"Slower-than-expected rebalancing may see the need for further policy stimulus from the RBA, but further weakness in the Australian dollar could obviate the need for further cuts."
TD Securities strategist Alvin Pontoh said the inflation comments "dilute the urgency for a near-term rate cut at the margin" and represented a "modest toning down" of its easing bias.
The Reserve Bank has emphasised the need for other parts of the economy such as housing and retail sales to fill the gap left by a peak in the mining investment boom. The minutes said previous rate cuts were helping to lift the housing market and fuel growth in housing investment.
But the RBA also acknowledged that domestic activity was growing below trend and the outlook for mining and non-mining investment remained uncertain.
"Mining investment was likely to remain high for some quarters given the considerable volume of firmly committed work, even though it looked to be close to, if not past, its peak," the bank's board members noted. "At some time beyond that, however, mining investment was expected to decline more rapidly."
Westpac economists said the RBA's "more downbeat" assessment of domestic economic conditions had been left out of the earlier statement, possibly as a tactical move to "buy time for more clarity around the currency and inflation".
The central bank believed it was too early to predict the effects of tightening financial conditions in China, Australia's trading partner, on borrowing and economic activity. The minutes also came as the Asian Development Bank revised down its China growth forecast to 7.7 per cent and 7.5 per cent for this year and next year respectively.
The Reserve reiterated that the Australian dollar remained high and that it would welcome a further fall in the currency to "foster a rebalancing of growth in the economy".
Economists said the second-quarter inflation data, due on July 24, would play a central role in the RBA's next decision to move or stay its hand.
Other indicators, such as retail sales, housing prices, building approvals, new home sales and credit figures will also be released before the August 8 meeting.
"If all that data is on the negative side and we get a good inflation outcome, then obviously the scope is there to go again," NAB senior economist Spiros Papadopoulos said. "It's very much data dependent."