Australia’s consumer price inflation (CPI) report has created a number of talking points following its release today.
Headline CPI, including volatile price movements seen during the quarter, jumped by 0.7%, seeing the year-on-year increase accelerate to 1.3%, hotter than the 1.1% pace expected.
However, underlying inflation, something that strips out volatile price movements, remained soft, rising just 0.35% for the quarter, leaving the year-on-year rate at 1.54% without rounding.
Courtesy of an upward revision to the June quarter figures, it marked the lowest year-on-year increase in the history of the survey.
Despite this, with the headline inflation figure rising sharply, the core reading in line with RBA forecasts and further signs that disinflationary forces are ebbing, financial markets have wasted no time in paring back expectations for a rate cut, at least in the short term.
The probability of a rate cut in November in now seen at just 4%, well below the one-in-three chance it was deemed at the start of the month.
That has put a rocket under the Australian dollar, lifted bond yields marginally and wreaked havoc on higher-yielding local stocks.
It’s been a sharp, and to some surprising, reaction to what is still undoubtedly a soft inflation report.
While financial markets have had their say, it’s time to see what the economic fraternity has made of it all.
Has it really killed off the prospect of any further rate cuts, or is there still a case to ease further given signs of weakening in Australia’s labour market?
Let’s find out:
Jo Masters, ANZ
While the Q3 headline CPI was a little stronger than expected, the underlying measures of inflation remain soft and weak inflationary pressures are widespread. The RBA would likely be disquieted by the soft tone for underlying inflation.
On this data, it is too early to conclude that disinflationary pressures are abating or even stabilising. Moreover, the outcome is below the RBA’s implied quarterly forecast and is likely to trigger a slight downgrade to the RBA’s inflation profile in the November SOMP
Today’s data slightly complicates the monetary policy outlook, but we doubt the RBA would see any urgency for a policy response. While inflation is still low and yet to stabilise, the bank will be mindful of ongoing strength in the housing market and the potential financial imbalances.
The new, more flexible statement on the conduct of monetary policy provides greater scope to tolerate below-target inflation. Moreover, the domestic economy looks solid, commodity prices are rising, and the AUD has stabilised.
We think that the inflationary pressures are stabilising and that the RBA will remain on hold with the cash rate stuck at 1.5% over our forecast period.
That said, the data would cement the RBA’s easing bias and raise the odds of a rate cut some time in the first half of next year. This would allow the RBA time to assess developments in the housing and labour markets, as well as see further wages, GDP, and inflation prints, and most likely, a Fed rate hike.
Su-Lin Ong, Royal Bank of Canada
We have long argued that domestically generated price pressures are likely to stay low for some time given the tepid pace of wages growth, which we view as partly structural as Australia is forced to become more competitive. There also remains a cyclical element with more slack in the labour market than the headline unemployment rate would suggest, consistent with weakness in full-time job creation, hours worked, and higher levels of underemployment.
These key leading indicators of inflation largely continue to surprise to the downside, with wages growth currently running near an historically low pace.
For the RBA, today’s inflation data were largely in line with their forecasts. Nevertheless, the details, coupled with the leading inflation indicators, suggest continued sub-target inflation for a few more quarters. We also remind readers that the RBA’s most recent forecasts show sub-target inflation through to the end of 2016 and persistent midpoint inflation at just 2% all the way through to the end of 2018.
We do not expect these forecasts to change next week when updated in the November Monetary Statement on Monetary Policy and they will, accordingly, continue to imply a mild easing bias. We do not, however, expect this bias to be exercised anytime soon given firmer commodity prices/national income, a stronger housing sector, and continued reluctance on the part of global central banks to provide much more support.
The picture may, however, be a little different further into 2017 as the residential construction cycle peaks, inflation stays low, and global growth remains modest. We stick with our long-held cash rate target of 1.50% by end 2016 and a final cut in Q2 2017.
Ivan Colhoun, NAB
While the core numbers were slightly lower than we had expected, NAB views these as insufficiently lower relative to the RBA’s broad expectation of 0.4% q/q for underlying inflation so as to trigger a significant adjustment to the RBA’s near-term inflation forecasts.
Stronger commodity prices and the headline inflation rate are likely to be helpful also in this regard, with the high headline rate likely to reassure the RBA that inflation expectations are unlikely to drop significantly further in the near term. Indeed, this may well be the low point for headline CPI y/y for this cycle.
The RBA is likely to leave rates unchanged in the next few months at least as it continues to monitor developments in the labour market and the flow through of previous interest rate cuts. Recent rises in commodity prices should provide some boost to sentiment in mining and WA, Queensland and the Northern Territory.
Our focus in the short term is more with a possible slowing in momentum in the NSW economy than the low quarterly CPI core measures. Medium term, we remain worried that economic growth in 2018 may require further stimulus to be applied in the second half of 2017.
Michael Blythe, CBA
The main message from the Q3 CPI is that inflation rates remain low and inflation pressures are well contained.
The 0.3% rise in the underlying CPI was a little lower than the consensus forecast of 0.4%, although this was tempered a little by a small upward revision to Q2.
Smoothing out the bumps, the underlying CPI was running at an annualised pace of 1.7% over the past two quarters and this looks a reasonable approximation of the current inflation pulse.
Market pricing and economist’s views have steadily backed away from the idea of a near term RBA rate cut, but RBA governor Lowe did note in a recent speech that the Q3 CPI would be an “important update”.
Our view before today’s numbers was that an underlying CPI rise of 0.3% or less in Q3 would leave inflation trapped at the very low rates that contributed to the May and August rate cuts. As such we continue to expect the RBA to cut the cash rate to 1.25% at the November Board meeting, although we hold this view without great conviction.
Scott Haslem, UBS
Today’s Q3 CPI was above expected, with a 0.7% q/q gain easing some of the concern around inflation expectations raised by RBA governor Lowe last week.
Underlying inflation was arguably below market at 0.3%. With some upward revision, the y/y shows evidence of basing around 1.5% and in line with the RBA’s recently slashed forecasts.
Given recent better growth data, easing macro headwinds (commodity prices & capex) and the RBA’s recent heightened focus on financial stability, we see the RBA on hold next week.
While the risk remains that core inflation drops below the critical 1.5% y/y rate, we see it basing here, with only a gradual drift higher, and the RBA on hold for an extended period.
Shane Oliver, AMP Capital
While it’s a close call, the September quarter inflation result was probably not low enough overall to trigger another rate cut from the RBA at next week’s Board meeting.
Both headline and underlying inflation are in line with the RBA’s inflation forecasts and the rise in headline inflation may reduce the short term downside threat to inflation expectations and at the same time economic growth in Australia looks reasonable with the worst of the mining investment slump behind us and a rise in commodity prices set to boost growth in national income.
As such, the RBA can afford to be patient in waiting for inflation to head back to target and thereby avoid the risk of adding to financial instability (read a further acceleration in Sydney and Melbourne home price gains) with another rate cut for now.
However, inflation is still very low, it’s not clear that it has bottomed yet and the AUD remains uncomfortably high so it’s premature to close the door on another rate cut.
We think that the RBA will leave rates on hold when it meets again next week.
Paul Bloxham, HSBC
This rate of underlying inflation would typically be low enough to see the RBA cut the cash rate further in response to the result. However, there are a number of differences this time around.
First, the RBA has already cut its cash rate by 50bp since May, in response to the downside surprise it got to its inflation forecasts back in April. Second, today’s numbers were not a downside surprise to the RBA’s current set of published forecasts which see underlying inflation at 1.5% in Q4 2016. Third, the RBA has recently increasingly emphasised the ‘flexible’ nature of its inflation target, noting that inflation is often outside of the target band but it is the average over time that matters. Fourth, growth is currently running at an above trend pace, which should help to lift inflation over time. Finally, commodity prices have lifted, with a particularly sharp rise in coal prices in recent months, which should also support a lift in local incomes, corporate profits, wages growth and thus inflation, over time.
We expect this to be enough to keep the RBA on hold next week.
Looking further forward, today’s CPI numbers remind us that inflation is still too low for the RBA and if it were to persist at these levels, it could start to impact on inflation expectations. However, our central view is that underlying inflation will lift in coming quarters, supported by above trend growth, rising commodity prices and rising wages as mining investment stops falling around the middle of next year.
Stephen Walters, Australian Institute of Company Directors
Today’s official CPI data for the September quarter delivered results significantly above economists’ expected outcomes and, more importantly, above the forecasts of Reserve Bank officials.
The results effectively rule out the delivery of another official interest rate cut any time soon, even though much of the upside surprise today came from an unexpected surge in prices for fresh food, following recent poor weather. Indeed, underlying inflation today was benign and bang in line with expectations.
It now is even more likely that the RBA will announce a steady cash rate next Tuesday, 30 minutes before the horses jump at Flemington. Further rate cuts down the track can’t be ruled out if the outlook for the economy derails, but another cut in the near term now is very unlikely.
Annette Beacher, TD Securities
September quarter underlying inflation — the RBA’s policy focus — was actually marginally softer than expected, although you wouldn’t know it by the market reaction.
The annual rate of the average of the two core measures (trimmed mean + weighted median) of 1.54%/yr is a marginal decline from the upwardly revised 1.6%/yr for the Jun quarter. The Q3 outcome was literally between TD’s slight downward bias at 1.5% and the market’s 1.6%/yr, but bang on the RBA’s 1.5%/yr projection as per its August Statement on Monetary Policy (SoMP).
Subsequently, there is no smoking gun for a cut next week.