The March quarter inflation rate was significantly below expectations, rising just 0.4 per cent in the quarter for an annual increase of 2.5 per cent. The underlying inflation rate was also lower – rising just 0.4 per cent, on average, for the quarter and giving an annual rise of 2.4 per cent.
Inflation remains very low.
It should be emphasised that both these annual inflation outcomes have been artificially boosted by the one-off effects of the carbon price, which started on July 1, 2012, with the best estimates suggesting that without this temporary price impact the headline CPI would be around 0.7 percentage points lower at 1.8 per cent, while the underlying inflation rate would be around 0.4 percentage points lower at close to 2 per cent.
Indeed in the last six months, the CPI has risen at an annualised pace of 1.2 per cent, with underlying inflation similarly depressed, rising at an annualised rate of around 1.7 per cent.
It is these inflation numbers, excluding the impact of the carbon price, that will feed into the Reserve Bank’s monetary policy deliberations in the weeks and months ahead and the signs are now that it will deliver more rate cuts, starting with a 25 basis point rate cut in May.
A critical aspect of the low inflation climate is the ongoing deflationary bias to prices from the strong Australian dollar.
Tradeable or predominantly imported goods and services prices fell 1.2 per cent in the quarter, locking in five falls in the last seven quarters. Obviously as the dollar stabilises or even falls in the months ahead, this source of lower inflation will fade and it will require smaller increases in domestically driven prices for inflation to remain contained.
With the economy warm but certainly not hot, this looks to be more likely than not.
The March quarter inflation should go close to guaranteeing a Reserve Bank rate cut. Recall, the Reserve has as its main target an inflation rate between 2 and 3 per cent, on average, over the cycle meaning that it hit the bulls-eye again with the latest data, and once the impact of carbon pricing washes out of the annual data, it looks like missing the target on the downside.
To be sure, the economy is continuing to expand at a reasonable pace and the impact of past interest rate cuts are still to take their full effect. But the case for a rate cut is enhanced by the mix of an overvalued Australian dollar, global economic softness, the terms of trade slide and uninspiring levels of business confidence, fiscal contraction and now an inflation rate that could fall too far.
There are still 13 days until the Reserve Bank’s board meeting and events could come along that sway the final decision.
But armed with the most recent news on inflation, the bank looks set deliver a 25 basis point rate cut to make sure inflation this time next year isn’t too low.