- Both headline and underlying Australian inflation undershot market expectations in the September quarter.
- The underlying inflation reading — of more importance when it comes to official interest rate settings — has now come in below the RBA’s 2-3% target for 11 consecutive quarters. It’s also moving further away from the bank’s target.
- Economists agree the report was weak, although they don’t believe it will be enough to prompt a policy shift from the RBA as yet.
No matter how you look at it, Australian inflationary pressures remain weak.
According to the ABS, consumer price inflation grew by just 1.9% in the year to September, decelerating from the 2.1% pace seen in the 12 months to June.
Underlying CPI — which removes volatile price movements and is more influential on the outlook for official interest rate settings — rose by an even slower 0.32% during the quarter after seasonal adjustments, leaving the increase from a year at 1.75%.
The quarterly increase was the weakest since the March quarter of 2016. Back then, in response to the weak inflation report, the RBA subsequently cut its cash rate twice in the following three months.
It’s now come in below the RBA’s 2-3% target for 11 consecutive quarters, creating renewed doubt as to whether it will climb back above 2% in the coming years as the RBA currently expects.
Of concern, it’s also moving further away, not closer to, the midpoint of the RBA’s target, an outcome that will do little to dispel speculation that the next move in the cash rate may not actually be higher, but lower.
Now that they’ve had time to piece through the report, let’s see what economists have made of the weak result.
Is it a game-changer for the RBA, or does it simply confirm that official interest rates will remain lower for longer?
Su-Lin Ong, RBC Capital Markets
Today’s data are broadly consistent with an economy with ongoing excess capacity and too much slack. Until that is absorbed, wages and inflation will struggle to move higher on a sustained basis. And, as we have long argued, the international experience suggests that full employment is no guarantee of higher wages and inflation given a number of structural headwinds.
The RBA is likely to have been disappointed by today’s data but probably not surprised given these cyclical and structural dynamics. The loss of momentum in annual core inflation is significant, but we are less sure that they will revise down their inflation forecasts in next week’s quarterly Statement on Monetary Policy (SoMP) given the impact of some one-offs which tempered today’s outcome such as the childcare benefit changes and stronger labour market data recently.
The latter remains key to policy deliberations, and while the starting point for inflation may be slightly lower than forecast, the move lower in trend unemployment suggests that slack may be declining more quickly than the RBA originally thought. Indeed, we think it more likely that the unemployment rate forecasts are edged lower in the upcoming SoMP. These stronger labour market outcomes will likely see the RBA stick to its long-held narrative that wages will eventually strengthen, taking inflation back into target range. Patience remains the key game at 65 Martin Place.
Today’s data remain consistent with our base case for no change to the cash rate for the next 12 months.
Joanne Masters, ANZ
The Q3 inflation data was expected to confirm weak price pressures, but even then the data was below market expectations, although broadly in line with ANZ’s forecasts.
More encouragingly, the ANZ Diffusion Index — which measures the proportion of the basket with annualised price rises of 2.5% or more — moderated only a little, to 33% from 37% and is above where the weakness in core inflation would imply.
The average of the core measures rose 0.32% quarter-on-quarter, and together with downward revisions to Q2, indicate a weak price pulse. However, the ANZ Diffusion Index is consistent with core inflation being weighed down by the one-off changes to some administered prices, as forewarned by the RBA in the August Statement on Monetary Policy.
Encouragingly, domestic market services inflation accelerated in Q3, suggesting that these prices are responding to the pick-up in unit labour cost growth. This is important for the inflation outlook given the weakness in housing and administered inflation as well as ongoing retail price competition.
Ben Jarman, JP Morgan
Consistent with the soft core readings, measures of the distribution of inflation remain weak. Only 17% of CPI components are growing above [the RBA’s 2-3% target band], a new low, which explains policymakers lack of anxiety about a genuine inflation breakout. 63% of the basket is growing below the bottom of the band, which is, at least, a little off the highs.
Averaging the two core measures, the last few September quarters have registered a very soft 0.3% and have marked the low for the year. This shows the impact of the ‘missing’ utilities inflation on these seasonally adjusted measures. That dynamic is not going away, but by the same token, the stale seasonal factors mean that September quarters have become a bit less reliable as a gauge of momentum in core.
Taking this into account, and with the economy facing stronger growth, lower unemployment, a weaker currency and higher oil prices, it still seems likely that annual core inflation picks up slightly from here.
A separate point is that, from a monetary policy perspective, these factors will make the RBA inherently less concerned about the risks of low inflation anyway.
Justin Smirk, Westpac
There are some isolated inflationary pressures — rising petrol and tobacco prices are clear standout as well as embryonic indicators that disinflationary pulse in retail may be easing but the moderation in housing costs — rents and dwelling purchases in particular — are a significant offset.
This is significant as this group weighting means it has a meaningful impact on the estimates of both inflation and core inflation. As such, with core inflation well below the bottom of the RBA’s target band we can find little to suggest any risk of a meaningful acceleration.
Paul Dales, Capital Economics
The RBA had expected underlying inflation to fall back to 1.75% in the fourth quarter before rising to 2.25% by the middle of 2020. So it is possible this trend is just happening earlier than expected. But our hunch is that the downward influence on underlying inflation is greater than the RBA has anticipated. If so, then underlying inflation will continue to fall short of the RBA’s forecasts.
Both headline and underlying inflation will probably nudge up at some point, not least as the temporary drag from some one-off changes in administered prices fades. That said, there is not much evidence that price pressures are building in other areas.
If we are right in expecting underlying inflation to stay below the 2-3% target until 2021, then even if the unemployment rate falls further the RBA probably won’t raise interest rates until late in 2020.
Shane Oliver, AMP Capital
The September quarter inflation data confirms yet again that pricing power remains very weak and inflation is continuing to run around or just below the RBA’s 2-3% target band.
There are no signs of any near-term significant price pressures in Australia, particularly with subdued wages growth and competition and technological innovation remaining intense.
We remain of the view that the RBA won’t raise interest rates until late 2020 at the earliest and given the weakness in inflation, wages and the Sydney and Melbourne housing markets along with the uncertain outlook for consumer spending the next move being a rate cut cannot be ruled out.
Callam Pickering, Indeed
In contrast to recent quarters, the poor result in the September quarter was largely due to domestic factors. A one-off decline in child care costs, down 11.8% in the quarter, certainly contributed. But broader inflation across categories such as housing and education remain modest, while health costs declined.
Wage growth also continues to weigh on domestic inflation. Disappointing wage growth is helping to contain domestic inflation. Although the unemployment rate has dipped to 5%, broader measures of labour market slack remain elevated and point towards a prolonged period of disappointing wage growth. This will help to contain domestic inflation over the next year.
Australia also continues to import low inflation from abroad. Although the impact of this is slowly diminishing and is likely to continue if the Australian dollar continues to trade at its current level. A lower dollar represents a clear upside risk to the inflation outlook.
This inflation report will be viewed as disappointing by the RBA. While some one-off factors were at play, underlying inflation remains well below the RBA’s inflation target. The ongoing weakness in wages suggests that this won’t change in the near-term.
More to follow…
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