Softening inflation, poses a 'dilemma' for RBA

The Australian Bureau of Statistic’s (ABS) consumer price index has softened to 6.9 per cent in October 2022 (year-on-year), from 7.3 per cent in September - the highest annual increase in the CPI since 1990.

While the month’s CPI data indicates inflation could be easing, high levels of building construction activity and ongoing labour shortages continued to drive prices for new dwellings up - the major contributor to high inflation.

The latest figures showed, in annual terms, new dwelling construction prices rose 20.4 per cent in October, considerably higher than the increase for the 12 months to October 2021 which was 5.0 per cent.

This was also marginally up from the 20 per cent reported in September’s monthly annual figures, but the ABS data revealed “the rate of price growth in September and October eased compared to the highs seen earlier this year”.

The softening of inflation was also a stark contrast to what economists had predicted, with most casting higher expectations.

AMP’s economist Diana Mousina said while the inflation rate for the month had softened, it remained up by 0.2 per cent month-on-month.

“The measure of underlying inflation, the “trimmed mean” was up by 0.3 per cent in October or 5.3 per cent over the year, below expectations for a 0.5 per cent monthly rise,” Ms Mousina said.

“Despite the headline figures showing softer than expected price growth for October, it is too soon to be certain of a slowing in inflation because the monthly CPI data is not as comprehensive as the quarterly CPI release.

“The monthly October release measures 63 per cent of the CPI basket with excluded areas including restaurant meals and takeaway foods, new dwelling purchase costs for apartments and electricity and gas prices.

“The big lift in prices for electricity and gas recently in Australia means that the monthly CPI index is probably underestimating inflation in October.”
While fuel prices remain elevated, the annual increase in October was “well below” the record increases seen earlier in 2022.

Over the twelve months to October the transport costs rose 7.4 per cent, with automotive fuel prices being the main driver lifting 11.8 per cent, up from 10.1 per cent in September.

Given the cost of living pressures on Australians, some reprieve might come in the supermarket with the annual change to the cost of fruit and vegetables down in October to 9.4 per cent, compared to 17.4 per cent in September.

In addition, following reports that Australians are ditching their holiday plans as high mortgage costs take focus, ABS data revealed holiday travel and accommodation prices rose 3.7 per cent in the year to October - down from 12.6 per cent in September.

The ABS data said: “Higher travel demand in 2022, compared to COVID-19 affected 2021, has seen ongoing higher price levels for airfares and accommodation.

“The monthly fall in holiday travel and accommodation was driven by the conclusion of the school holiday period and the end of the peak tourist season for travel to Europe and America.”

Given the Reserve Bank of Australia (RBA) is clear on bringing down inflation to the target 2-3 per cent, it is expected that this increase will weigh on next week's monetary policy decision Tuesday (6 December).

ANZ’s senior economist Catherine Birch said the “deceleration” in the monthly CPI “poses a dilemma” for the RBA next week.

Deputy Governor Bullock has said that it will take time to “figure out what is the noise and what is the information” in the series.

“And as we saw last quarter the softer first monthly CPI of the quarter wasn't a particularly useful predictor for the quarter as a whole," Ms Birch said.

“Still, this will likely see the board next week consider the possibility of pausing in December. Given the natural pause in January when the board doesn’t meet, we expect another 25 bp at next week’s meeting.”

The general consensus among economists is that the RBA will lift the cash rate by 25-bp in December, taking the rate to 3.10 per cent.

However, where it differs is the expected peak the cash rate will hit before falling again, with ANZ Bank economists expect the cash rate will peak at 3.85 per cent, with a “real risk” the RBA will go above 4 per cent range and the first rate cut not until November 2024.

AMP is a little more optimistic expecting the cash rate to peak at 3.35 per cent, with two more 25-bp increases in December and February.

[Related: Inflation tipped to weigh on Decembers rate hike]