Markets traded in a tight range this week. Softer US inflation data appears to support the Fed pivoting to a pause, so too tighter credit conditions reported in the Senior Loan Officers Opinion Survey. The Bank of England hiked rates by 25bps following the likes of the Fed, ECB and RBA last week. The focus domestically next week turns to the labour market with the April employment data and the Wage Price Index for Q1 due.
US inflation continues to ease
Disinflationary forces continue to play out in the US, supporting expectations that the Fed's hiking cycle peaked at last week's meeting. April's CPI readings saw headline inflation ease to a 2-year low at 4.9%yr from 5% previously and the core rate (ex-food and energy) tick down from 5.6% to 5.5%yr.
While still elevated readings, there were signs that inflation is slowing in a broader range of categories. The headline inflation rate has almost halved from its peak in the middle of last year at just above 9%, mostly the result of declines in energy and goods prices. But now services inflation - which had been rising since early 2021 - looks to be softening, with the annual rate coming in to 6.8% from a high of 7.6% two months earlier.
Over the next couple of months, US inflation is likely to decelerate more rapidly. The recent momentum shows headline inflation is running at a little above 3% on both a 3-month (3.2%) and 6-month annualised basis (3.3%). Furthermore, large increases in inflation from 12 months ago in May (0.9%) and June (1.2%) are about to roll out of the annual calculation. Factoring all this in, headline inflation is on track to fall to around 3.5% by July. A similar process points to a more gradual decline in the core rate to around 5%, but progress nonetheless.
Easing pipeline pressures validate the outlook for lower inflation. Producer prices on a headline basis slowed to a 2.3% annual pace in April, down from 2.7% in March and from almost 12% at its peak. This reflects declines in input prices and improved supply chain pressures, factors that are contributing to a disinflationary pulse flowing through to households.
Bank of England hikes 25bps as UK outlook improves
The Bank of England's MPC hiked rates by 25bps to 4.5% this week. A vastly improved economic outlook - with a recession no longer anticipated by the BoE - and upside risks to inflation saw the MPC voting 7-2 (2 voting for no change) to extend the tightening cycle. The May Monetary Policy Report revised up the UK growth outlook in response to falls in energy prices, additional fiscal support and greater resilience in activity, but the MPC remains focused on the inflation outlook.
Inflation is now expected to chart a slower decline, with the stronger growth outlook pushing back the timing for inflation to fall below the 2% target into 2025. Although that is still a policy-relevant timeframe, Governor Bailey said in the post-meeting press conference that the MPC saw the risks around that forecast as "skewed significantly to the upside" and this justified hiking rates. It was reiterated that the MPC remains attentive to the risk of inflation pressures persisting through wage and price-setting decisions and that it would respond with more tightening if required.
Fiscal support on the way in Australia
The Australian Federal Budget reported a significantly improved fiscal position as elevated commodity prices and stronger-than-expected economic conditions drove an uplift in government revenue. A detailed review of the Budget can be found here, but in summary a revenue windfall has been used to lower future deficits and fund additional cost-of-living support measures in a roughly 80/20 split.
Support measures inject around $21bn of new stimulus over the coming 5 years, with $12bn of this to effect in 2023/24. There look to be two-sided risks to inflation from this. Relief on household energy bills and rental assistance will mechanically lower inflation, but additional spending could flow from these savings. The measures are also temporary, so the effect on measured inflation will be reversed later on.
Also in Australia this week, retail volumes contracted by 0.6% in Q1 as households pulled back under pressure from the cost of living and rising interest rates (see here). Meanwhile, domestic dwelling approvals remained at very low levels in March as headwinds continue to impact the home building sector (see here).