Australian inflationary pressures, outside of higher utility prices, were hardly anywhere to be seen in the September quarter of this year.
According to the Australian Bureau of Statistics (ABS), headline CPI rose by just 0.6%, leaving the change on a year earlier at 1.8%.
The annual increase not only missed expectations for an increase to 2%, but was also well below the recent peak of 2.1% reported in the March quarter of 2017.
Underlying inflation — the average of the ABS’ trimmed mean and weighted median inflation measures and of more importance in terms of the outlook for interest rates — was similarly weak, increasing by 0.35% for the quarter, leaving the annual rate unchanged at 1.88%.
That too was below forecasts for an acceleration to 2%, and left underlying inflation below the Reserve Bank of Australia’s (RBA) 2-3% target for an eighth consecutive quarter.
It was an all-round soft result, fitting with weakness in Australian wage pressures over recent years.
While not enough in isolation to warrant a rate cut from the RBA as was seen last year, markets have quickly adopted the view that it’s lessened the odds the bank will lift interest rates for the first time in seven years next year.
Now that the markets have spoken, it’s time to see what economists have made of it all.
Has it truly scuppered any chance of near-term rate hike, or is this just temporary setback, with strengthening labour market and business conditions set to push inflation back to within the RBA’s target?
Let’s find out.
Justin Smirk, Westpac
What was surprising in the September quarter was that the components of the CPI came in broadly as we expected hence our below market forecast of 0.7% on headline inflation and 0.3% forecast for core inflation was very close to the mark. Where there were some difference between our forecast and the actual component print they did tend to the lower, rather than the higher, side of our estimates.
In the quarter the CPI rose 0.6% for an annual pace of 1.8% while the average of the core measures rose 0.4% [leaving the annual rate at] 1.9%. The ABS analysis also points to significant seasonality in the September quarter CPI with the seasonally adjusted estimate rising 0.4% which, which was some 0.2 percentage points (ppts) lower than the headline estimate and bang on Westpac’s forecast.
Broadly speaking the Australian economy appears to be locked in a low inflation environment where there are some sectors experiencing modest inflation, particularly around housing and health, but being mostly offset by deflationary pressure due to the competitive squeeze in consumer goods. At the stage we struggle to find any broad cyclical upswing in prices that you would normally expect to see at this stage of the economic recovery.
For now our forecast see headline inflation peaking at 2.7% through the year in the September quarter 2017 but we have to note that this is based on the current CPI weight and we estimate that the reweighting of the CPI could shave between 0.3ppt and 0.4ppts off the annual rate of inflation. And, just as importantly, given that the run of soft updates that point to the Australian economy being in a low inflation trap, we would suggests the risks to these forecasts still lie to the downside.
Jo Masters, ANZ Bank
The Q3 inflation print was a touch weaker than expected, although the boost from higher electricity and gas prices came through as we thought. The core measures, together with the ANZ Diffusion Index, suggest that price pressures remain muted across a broad range of items. Retail competition and the stronger AUD clearly impacted.
From a policy perspective, our expectation of two rate hikes in 2018 was not driven by an expected acceleration in inflation, although a stabilisation in inflation close to the policy band seems a necessary precondition. These data leave a question-mark about whether that has been achieved, though we are leaving our RBA call unchanged at this point. Given other dynamics, faster wage growth is critical to the inflation outlook.
Looking forward, the question is whether core inflation is again slowing and the annual profile set to decelerate. The Q4 reading has always been likely to be soft, given the technical changes. The key issue is the pace of inflation in 2018. With retail price inflation set to remain under pressure, the onus is heavily on stronger wage growth to lift domestic inflation pressures. Encouragingly, there are signs that wage growth is stabilising, and the strength in the labour market points to a gradual acceleration.
Ben Jarman, JP Morgan
We have been very downbeat on inflation, given our skepticism that the recovery in the global economy and Australia’s terms of trade will transmit to household income, wages or prices, and today’s data appear to confirm that. The only pockets of inflation that are occurring are in administered prices, particularly utilities and excise increases in tobacco.
Interestingly, in today’s report the ABS has published an exercise breaking down long term trends in the CPI data into more granular pieces, and examining how price changes for individual items are dictating movements within each CPI subgroup. They see a broad drift in the entire distribution of prices for all items within groups, hinting at a structural process. Similarly on diffusion measures, in today’s data, the share of CPI basket items with price growth below the target band (below 2%) reached a new high of 66%.
For the RBA, today’s numbers don’t really say anything new, though are still an uncomfortable reminder that financial conditions are too tight, and there is a lot at stake in hoping that growth will recover sufficiently to achieve the inflation target over time.
Perhaps most concerning is the fact that such weak momentum is being exhibited heading into the much-hyped entrance of Amazon into local retail and the CPI re-weighting in the next data release, which, in our view, will take 0.2 percentage points off inflation next year.
The best that can be said about inflation in the current context is that it at least preserves the value of real wages, which is important in sustaining a stretched household balance sheet.
Paul Dales, Capital Economics
The surge in electricity and gas prices in the third quarter will garner a lot of attention, but the drop back in the headline inflation rate from 1.9% to 1.8% underlines that price pressures remain remarkably subdued across large parts of the economy. That’s not going to change soon, which is why we believe the RBA won’t raise interest rates from their current record low of 1.5% at all next year.
The RBA will view the rise in utilities prices as a hit to real incomes that could restrain consumption rather than a sign that inflation is building. Indeed, there was no evidence that firms are passing on higher energy prices to households as inflation in other parts of the economy stayed unusually weak.
There are two reasons why underlying inflation may stay close to, or below, 2.0% for another two years yet. First, some of the strength in the third quarter is unlikely to last while the weakness will probably persist. For example, the unseasonably strong 4.1% q/q rise in tobacco prices was due to higher taxes and the softening in housing activity means the 0.8% q/q gain in new dwellings prices may not be repeated. But the unseasonable weakness in clothing (-0.9% q/q), food (-0.9% q/q) and communication (-1.4% q/q) may endure as subdued demand and intense competition continues to restrain retailers’ pricing power.
Second, these data overstate the true rate of inflation a bit [as] they don’t take into account people swapping expensive products for cheaper ones. From the fourth quarter, the ABS will use updated spending patterns to calculate the CPI that will mean inflation over the next year will be a bit lower than otherwise.
Shane Oliver, AMP Capital
Weak underlying demand in the economy and competition in retailing — which may intensify when Amazon arrives — is driving weak underlying inflation but the rise in the Australian dollar so far this year by pushing down import prices has added to it.
The weakness in demand mainly reflects record low wages growth but the surge in energy prices will have added to it as it acts like a tax on spending power in reducing discretionary income.
It is also worth noting that inflation in the private sector part of the economy is running at just 1.2% year-on-year (YY) as measured by the “Market goods and services ex volatile items” index. Inflation in the government affected parts of the economy is running much higher with prices for alcohol and tobacco up 7% YY, utilities up 8.9% YY, health up 3.9% YY and education up 3.1% YY.
There is no imminent RBA interest rate hike here. Headline and underlying inflation is running below the mid-point of the RBA’s inflation forecasts and this is likely to remain the case for a while yet. Our view remains that the RBA won’t raise interest rates until late next year as it will take a while for a gradual pick-up in economic growth to flow through to stronger wages growth and higher underlying inflation in the economy.
Tapas Strickland, NAB
For the RBA, these numbers will likely reinforce their view that inflation will only very gradually lift towards the middle of the inflation target. With inflation also a touch weaker than expected, the RBA will also likely need another CPI print to confirm that inflation has truly bottomed and that a tightening labour market will lead to higher inflation. Given strength in the labour market to date, NAB sees the unemployment rate low enough by mid-2018 to give the RBA confidence in wages and inflation lifting and expects the RBA to hike rates twice in 2018.
While the core measures were softer-than-expected, it is also clear that they have stabilised and is consistent with the view that we are likely past the low point in the inflation cycle.