The strength of Australia's mining sector helped it avoid recession
Australia has raised its main interest rate to 3.25% from 3%, becoming the first G20 nation to do so as the global economy begins to recover.
The move by its central bank was not unexpected as the Australian economy was the only one in the developed world to expand in the first half of 2009.
In fact, Australia managed to avoid recession, only seeing its economy contract in the last quarter of 2008.
Its government has helped the economy with major stimulus spending.
It has spent 42bn Australian dollars ($35bn; £21bn) on schemes including cash handouts for pensioners and for low and middle-income families, and a number of infrastructure projects.
This helped the economy to grow 0.4% in the first quarter of this year, and by 0.6% in the second, rebounding from the 0.5% contraction between October and December 2008.
By Nick Bryant, Australia correspondent
Australia has been called "the wonder from down under", both for managing to avoid a recession and for the strength of its recovery from the global economic downturn.
The central bank's decision will burnish that reputation, since Australia has now become the first G20 country to increase rates and reverse the worldwide strategy of slashing the cost of borrowing.
Prior to the rise, interest rates had plunged to a 49-year low - an emergency rate designed to deal with an emergency situation.
Though some economists and industry groups had argued that the emergency rate should be left in place to make absolutely sure that the recovery had taken hold, the bank decided that there was a risk of inflation and unsustainable borrowing if it did not act now.
"The Reserve Bank of Australia (RBA) had widely advertised it was near to edging up rates from their extraordinary lows, and now it's done so," said Rory Robertson, interest rate strategist at Macquarie.
"It will be a gradual move from an emergency rate of 3%, to a still-easy 4%."
Mr Robertson added that if the Australian economy continued to expand as expected, rates could return to "a more normal 5%" in the next year or two.
Tuesday's move is the first time the Australian central bank has increased interest rates since March 2008.
The Australian economy has also managed to avoid falling into recession thanks to the strength of its mining sector, which has continued to see strong demand from China for its iron ore and other commodities.
"The Australian economy is outperforming other advanced economies, and I guess many economists will see the decision today as a consequence of economic recovery," said Federal Treasurer Wayne Swan.