The June Quarter CPI printed 0.4%qtr compared to Westpac’s forecast for 0.4%. The market median was 0.5%. Given that at 2 decimal places the rise in the CPI was 0.36%qtr it’s clearly a soft update. The annual rate was lifted on base effects to 2.1%yr compared to 1.9% in 2018 Q1 and 2017 Q4 and 1.8%yr in Q3.
The core measures, which are seasonally adjusted and exclude extreme moves, rose much as expected (0.46%qtr vs our 0.50%qtr forecast). In the quarter, the trimmed mean gained 0.52% while the weighted median lifted 0.49%. Including revisions, the annual pace of the average of the core measures was 1.9%yr a moderation from the 2.0%yr pace in the previous three quarters.
The ABS analysis also confirmed the negative seasonality in the June quarter CPI with the seasonally adjusted estimate rising 0.5%qtr vs the 0.4%qtr headline print. It is curious then that the market had a 0.5% qtr median forecast for both the headline and core inflation. Unless there was something extreme in the distribution of price changes, then all else held equal, you would expect that the forecast for core inflation should be higher than your estimate of the headline inflation given that the components are seasonally adjusted before trimming. The fact that the market median headline estimate was equal to the core estimate suggests to us many analysts are making educated guesses for their forecasts and not completing bottom up component forecasts, then trimming the results, as Westpac does.
The six month annualised pace of core inflation is now 2.0%yr from 2.0%yr in Q1, and 1.7%yr in Q4 2017. For a broader core inflation measure, more in line with some international measures, market sector goods and services excluding volatile items rose 0.4%qtr holding the annual pace flat at 1.1%yr.
Key non-tradeable prices, particularly for housing, health and education, are restraining inflation, while energy prices have become an outright deflationary force. Outside of these factors however, there is no real evidence of a broadening in price disinflation/ deflation. For a more in depth review of the June Quarter CPI please refer to our bulletin Aust 2018 Q2 CPI: Waiting for Godot has a record run at the ABS.
Our interest is focused on housing costs, as where housing costs go, so too does non-traded inflation. Housing costs were close to our expectations rising 0.2% vs. 0.1% expected. However, the mix was very interesting with rents flat (0.2% expected), dwelling purchases rose 0.8% (vs. 0.5% expected) while the fall in utilities was greater than anticipated (–1.2% vs –0.9% expected). For utilities there was an expected fall in electricity bills (–1.3%qtr) and an even larger fall in gas & other household fuels (–2.2%qtr).
For rents, outside of the 0.8%qtr increase in Hobart, all other capital cities reported very soft or falling rents. Sydney and Melbourne reported gains of 0.3%qtr and 0.2%qtr respectively while rents fell –0.2%qtr in Brisbane and –1.8%qtr in Perth. Adelaide rents rose 0.4%qtr. Going forward it does appear there are downside risks to the very modest gains in rents we have in our inflation profile.
More significant to our inflation profile has been the shift in household energy bills. Up until this year, rising wholesale electricity and gas prices were driving household utilities costs higher. Then last year a policy shift by the Queensland Government and an unexpected surge in renewable power generation saw a collapse in wholesale electricity prices. Also the Federal Government’s intervention in the gas market last year to ensure more gas for domestic use helped to ease price pressures.
This is a game changer. Until recently we had expected that rising electricity prices would remain a meaningful inflationary pulse at least through 2018 and possibly into 2019. The recent fall in wholesale prices, which is likely to continue with the ongoing investment in renewables, plus Federal Government pressure via the release of a recent ACCC report into the National Electricity Market (ACCC releases blueprint to reduce electricity prices) we expect electricity prices to fall through 2018 and the first half of 2019. We have been conservative with the estimated decline and suggest the risks to our electricity inflation forecasts lie more to the downside than the upside.
The resulting impact of these changes is that we now forecast headline inflation to remain below 2.0%yr out to the end of 2019 (our forecast is for 1.7%yr at end 2019). That is correct; not only do we not expect inflation to return to the mid point of the target band but we don’t expect it to get back into the band.
But it is important to note that falling electricity prices are a key factor for dampening headline inflation. As to core inflation, we see it holding close to the bottom of the RBA’s target band through this period (2.1%yr at end 2019). As such, we think it is too early to start debating the risk of a rate cut by the RBA. RBA Governor Lowe has stated that in an environment of sound employment growth it was not in the interest of the welfare of the nation to lower interest rates further, as given such low embedded inflation, this may not generate the inflationary pulse via wages but rather just boost credit growth and further lift asset prices. (see RBA Governor, Philip Lowe, at the ECB Forum on Central Banking). The June Quarter CPI, and the revisions to our inflation forecasts are consistent with an RBA on hold out to the end of 2019.
Outside of utilities the other area where downside pressure appears to be significant was the smaller than expected seasonal re-pricing for household contents & services (0.3% vs 0.8% expected). It does appear that the competitive pressure to hold down prices in this sector continues so we are watching this space carefully. Our forecasts incorporate some pass through from a weaker AUD through the next two years. Any lack of such pass through presents a downside risk to both our headline and core inflation forecasts.
Wages inflation is peaking right now as well. And as house prices fall, all of it can only get worse. Next move in interest rates is down.
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.
He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.
