Tomorrow the Australian Bureau of Statistics (ABS) will release its quarterly consumer price inflation (CPI) report. It’s a crucial release for the outlook for interest rates, especially given its implications for RBA inflation forecasting.
The timing, before the RBA meets in February, May, August and November, has often led to the bank adjusting the level of domestic interest rates. Of 28 rate movements recorded under current RBA governor Glenn Stevens’ tenure, 15 have occurred directly after the release of the quarterly CPI report. Clearly it’s a crucial to the RBA, and equally so for financial markets.
Before its release tomorrow, Business Insider wanted to explain some of the key terms in the report, to help demystify exactly what it means, and help you understand how the RBA and others read it.
Here’s what you need to know.
“Basket” of goods and services
The simplest way of thinking about the CPI figure is to imagine a basket of goods and services comprising items bought by Australian households in metropolitan areas. As prices change from one quarter to the next, so too will the total price of the basket. CPI is simply a measure of the changes in the price of this fixed basket as individual prices change.
The basket has 87 individual expenditure classes from 11 broader categories. Estimates for the amount spent on each class determine its weighting in the CPI basket. If an item that households spend more on moves dramatically over a quarter, its larger weighting will be more influential than items that households spend less on.
The expenditure classes within the CPI basket are not revealed by the ABS.
Tradable and non-tradable inflation
Tradable inflation is the price movement in goods and services that are more influenced by international developments and fluctuations in the Australian dollar, rather than domestic factors. There are 47 individual expenditure classes, accounting for approximately 40% of the CPI basket by weight. Non-tradable inflation, largely determined by domestic factors influencing supply and demand, encompasses 40 expenditure classes, and accounts for approximately 60% of the CPI basket by weight.
While the headline CPI reading measures overall movements in the ABS’ basket of goods and services, the core reading is more important to the RBA in terms of the underlying trend in inflation, hence the outlook for interest rates. The reading is a combination of the trimmed mean and median weighted inflation readings released by the ABS, and strip out irregular price movements in expenditure classes based off regular seasonal patterns. The calculations the ABS applies to determine the trimmed mean and weighted median inflation readings can be accessed here.
The RBA aims to keep the core inflation reading between 2-3% on an annualised basis, so changes that take the core reading close to the upper or lower target bands increase the likelihood that the RBA will move interest rates.
Lower readings increase the likelihood of rate cuts, higher readings for rate hikes.
The ABS will release its September CPI report on Wednesday October 28 at 11.30am AEDT.
According to a recent survey conducted by Bloomberg, headline inflation is expected to increase by 0.7% during the quarter, leaving the annual rate of change at 1.7%.
Core inflation is tipped to rise by 0.5%, something that will leave the annual rate right in the centre of the RBA’s target 2-3% target band at 2.5% if derived.