* RBA sees inflation under its 2-3 pct target for two years
* GDP growth seen 2.5-3.5 pct by end-2016, 3-4 pct by end-2018
* Sees modest employment growth, no drop in jobless rate (Adds analyst comment, market reaction)
By Wayne Cole and Swati Pandey
SYDNEY, Aug 5 (Reuters) - Australia's central bank warned on Friday that core inflation was likely to remain below target for the next two years, a surprisingly dovish assessment that foreshadows more rate cuts to rev up the economy.
The Reserve Bank of Australia's (RBA) subdued outlook for inflation was all the more meaningful as it had only just cut rates to an all-time low of 1.5 percent, suggesting it doubted the easing would generate price pressures anytime soon.
"For us this is consistent with the risk of further easing," said Su-Lin Ong, senior economist, RBC Capital Markets. She expects the RBA to cut again early next year.
"Inflation forecasts don't return to the 2-3 percent target range over the entire period. There isn't a forecast to return to target. I think that tells you very clearly that an easing bias remains intact."
The RBA aims to keep inflation within a band of 2 to 3 percent over the long run, but the headline consumer price index rose just 1 percent in the year to June while underlying measures ran at a record low 1.5 percent.
That prompted the RBA to cut its cash rate by a quarter point this week, its second easing this year as it seeks to defend the economy from the creeping deflation that has become the bane of developed economies. L3N1AJ1GS
The RBA's 72-page report offered no forward guidance on whether it would ease again but said the cash rate was assumed to move broadly in line with market pricing.
The futures market is pricing in a 50-50 chance of another cut by Christmas.
"Inflation is likely to remain below 2 percent over most of the forecast period (to end-2018)," RBA governor Glenn Stevens said in his last quarterly outlook on the economy before handing over the deputy Philip Lowe next month.
"While the prospects for growth in economic activity are positive, there is room for even stronger growth."
Australian long-end government bond futures rallied with the 10-year contract YTCc1 up 5.5 ticks to 98.095, implying a yield of just 1.91 percent.
The RBA report did not repeat its usual line that a strong Australian dollar would complicate the rebalancing of the economy away from mining.
That partly caused the Australian dollar AUD=D4 to rise a quarter cent to $0.7648, after first dipping briefly.
The RBA kept its forecasts for economic growth largely unchanged at 2.5-3.5 percent this year, before rising to 3-4 percent by 2018.
Yet it sees only a modest increase in employment growth in the near-term and little improvement in jobless rate.