By Stella Qiu and Wayne Cole

SYDNEY (Reuters) – Australia’s central bank kept its cash rate steady at 3.85% on Tuesday, surprising markets that expected a cut. The Reserve Bank of Australia (RBA) indicated that most board members wanted to gather more data to confirm a slowdown in inflation.

Following the announcement, traders pushed the Australian dollar up 0.8% to $0.6543, while three-year bond futures fell. Markets now imply an 88% chance of a cut to 3.60% at the August 12 meeting, favoring a bottoming rate of 3.10% rather than 2.85%.

After a two-day policy meeting, the RBA expressed caution about the inflation outlook, with six members voting to hold rates steady and three against, marking a rare division in the board.

Markets had expected a rate easing given core inflation slowed to the mid-point of the RBA’s 2% to 3% target range and consumer spending was weaker than anticipated.

The board noted it could wait for more information to confirm inflation is on track for a sustainable 2.5% target and emphasized that monetary policy is ready to respond to international developments affecting activity and inflation in Australia.

RBA Governor Michele Bullock stated that the board’s disagreement was more about timing, indicating an easing path ahead if second-quarter CPI aligns with forecasts. She mentioned that the worst of U.S. tariffs had been avoided, although tariffs remain elevated.

Despite expectations to alleviate rates, Treasurer Jim Chalmers acknowledged that the RBA’s decision was not what many Australians anticipated, noting the reduced downside risks that had previously concerned the Board.

The RBA cut rates in February and May but these moves had limited impact on consumption, as consumer sentiment remained cautious, even with housing prices rising.

A monthly inflation report indicated that the trimmed mean measure hit 2.4% in May, prompting some economists to predict an earlier rate cut.

The RBA acknowledged that indicators suggested inflation would align with forecasts but were slightly stronger than expected. Resilient labor market conditions, with an unemployment rate at 4.1%, argue against hasty policy changes.

According to Marcel Thieliant from Capital Economics, barring major surprises in Q2 inflation data, a cut is still expected at the upcoming meeting in August, although the forecast for easing may be reduced to less than 100bps over the next twelve months.