Australia's December quarter inflation report is due from the ABS at 11:30am (AEDT) today. After surprising to the upside in Q3, inflation is expected to have slowed into year-end. Expectations going into today's report are for both headline and core inflation to decline to 4.3%, slightly below the RBA's forecasts. Current pricing implies that markets see the RBA starting to cut rates later this year in Q3, but this could shift forward to Q2 if the key outcomes today come in below expectations, a plausible scenario in my assessment.
A recap: Inflation surprised on the upside in the September quarter
Australian inflation continued to decline in the September quarter but by less than expected. The RBA subsequently hiked the cash rate by 25bps to 4.35% at the November meeting. Headline CPI was 1.2% quarter-on-quarter (vs 1.1% expected), declining from 6% to 5.4% (vs 5.3%) in annual terms. The trimmed mean - or key measure of core inflation - also came in at 1.2%q/q (vs 1%), resulting in the annual rate slowing from 5.9% to 5.2% (vs 5%).
After peaking in late 2022 at 7.8%, headline inflation declined through 2023 as price pressures in new home building, durable goods and food eased. But inflation continues to remain well above the RBA's 2-3% target band, with a range of household services, utilities and rents contributing strongly to the CPI.
Global factors including slowing demand conditions and an easing of supply chain pressures have largely driven the decline in Australian inflation. Reflecting this, tradables inflation fell from 4.4% to 3.7% year-on-year in the September quarter. By contrast, domestic price pressures remain elevated, with non-tradables inflation easing only marginally from 6.9% to 6.2% year-on-year. This captures the effects of price rises in items such as insurance, electricity, rent and household services.
Inflation is expected to have slowed materially into year-end...
Going into today's report, headline CPI is expected to print at 0.8%q/q and 4.3%Y/Y, with the trimmed mean estimated at 0.9%q/q and 4.3%Y/Y. These estimates imply that inflation is expected to fall below the 4.5%Y/Y pace forecast by the RBA on both a headline and trimmed mean basis.
... with potential downside risk
In my assessment, the risks are skewed to the downside of these consensus forecasts. This assessment is partly based on observations from overseas where disinflation accelerated into year-end in many countries. It also takes into consideration the recent monthly CPI prints. The 3-month change in the headline CPI index to November was 0.6%; as the chart below shows, this provides a reliable lead indicator for the quarterly inflation rate.
The monthly CPI reports for October and November have also been useful in identifying the key price movements that occured during the final quarter of the year. Government measures to provide cost of living support have been instrumental in limiting inflation in rents and electricity bills. On the back of declining wholesale prices, fuel prices nationally look to be down in the order of 3-4% since the end of Q3.
Outside of these factors, today's report will fully capture the discounting associated with Black Friday sales across a range of durable goods items. Although the consensus forecasts take this into account, there was limited data in the November series to gauge the Black Friday effect, so this is another potential source of downside risk.
