Australian inflation is expected to have moderated in the March quarter (data due at 11:30am AEST) after peaking at 30-year highs in late 2022. Coming ahead of next week's May Board meeting, today's report will be a key input in determining whether the RBA goes on an extended pause or if more tightening is required.
As it stands | CPI
Inflation printed at new highs stretching back to the early 1990s in the December quarter. Headline inflation was 1.9% in the quarter, the annual pace lifting to 7.8% from 7.3%. The core rate (trimmed mean) posted at 1.7% in Q4 to be up at 6.9% in year-ended terms from 6.1%.
Over the past year, home building costs, food, fuel and durable goods have been the major drivers of inflation. But inflation pressures have been broadly based. Prices for around 70% of items in the CPI basket increased at an annualised pace above 3% in the December quarter, a similar level to recent quarters. High inflation in Australia was the result of supply constraints caused by the pandemic and the war in Ukraine against a backdrop of robust demand. Other factors such as flooding along the east coast of Australia and disruptions associated with an extended La Niña system had also played a role in accentuating supply pressures.
The largest contribution to the 1.9% inflation rate in Q4 came from holiday travel. The peak summer holiday period was the first unaffected by restrictions since 2019 and strong demand for travel pushed up prices for airfares and accommodation. Associated demand at restaurants and cafes added to inflation, with those businesses passing through higher prices to customers. Vehicle prices remained on the rise, reflecting earlier supply constraints.
Electricity prices rose sharply after government rebates were applied in the previous quarter. New home building costs and fuel prices were still rising, albeit at a slower pace than earlier in the year, sharply reducing their respective contributions to inflation. Low vacancy rates in the capital cities led to upward pressure on rents, which were rising at their fastest quarterly rate in around a decade.
Market expectations | CPI
The monthly CPI indicator declined from 8.4% in December to 7.4% in January and then to 6.8% in February. Slowing inflation reflected price pressures easing in several key categories including fuel, holiday travel, food, clothing and footwear and household goods, providing convincing signs that inflation peaked in Q4.
For Q1, the consensus estimate is for headline inflation to print at 1.3% (range: 1.2% to 1.7%), with the annual pace slowing to 6.9%. These outcomes are in line with the readings from the monthly CPI indicator. The 3-month change in the CPI index to February was 1.3% and the 12-month pace was 6.8%. Core inflation on the trimmed mean measure is expected to be 1.4% quarter-on-quarter, leaving the annual pace softer at 6.7%.
What to watch | CPI
Today's report will be influential in shaping the RBA's inflation outlook, with updated forecasts due to be presented to the Board at the May meeting. The February forecast round projected a timeline of mid 2025 for both headline (3%) and core inflation (2.9%) to return to the 2-3% target band.
At the April meeting, the Board paused its tightening cycle awaiting further data and the updated forecasts. A speech from Governor Lowe and the April meeting minutes have indicated the Board's reaction function is anchored by the strategic view that inflation will gradually come back to the target - consistent with its medium-term horizon for monetary policy - as it aims to preserve the gains made in the labour market.
In my reading of the situation, the RBA will be prompted to start hiking again if today's report leads to its inflation outlook being revised upwards, resulting in a slower path back to the target band. On the other hand, if the report is consistent with either the current or a faster trajectory, then an extended pause is likely.
