Distance between inflation and RBNZ’s target narrows

All eyes this week will be on the Consumer Price Index data in the wake of the Reserve Bank’s slight change in mood on when interest rates will come down.

Monday, July 15th 2024, 10:25AM

The central bank’s recent Monetary Policy Review highlighted growing confidence in the medium-term inflation outlook.

Bank economists are expecting to see a fall in the CPI on Wednesday, with Westpac predicting 3.5%, the top of the range, Kiwibank 3.4% and ANZ and ASB 3.3%. Westpac is nearer the Reserve Bank’s (RBNZ) May estimate of 3.6%, when its last Monetary Policy Statement was delivered.

The RBNZ’s next Monetary Policy Statement will be released in August when economists are expecting a much better steer on the OCR path.

Inflation peaked at 7.3% in June 2022 and in the March quarter this year fell to 4%, which is still outside the RBNZ’s target range of 1-3%, but Kiwibank senior economist Mary Jo Vergara says it isn’t just about the CPI’s headline number, the underlying trend is more important.

“Core measures of inflation strip out volatile price movements in food and energy, and will give a better account of the underlying trend in consumer price growth. We expect to see better progress on Wednesday given clear weakness in the economy.”

The path for inflation from here, is the path for policy, Vergara says.

The data should confirm that inflation is moving in the right direction and forward-indicators point to further moderation in price growth. “And the psychological shift of seeing an inflation rate with a 2% handle should not be disparaged.”

However, disinflation in prices for core goods and services has been slow, she says. While weakening inflation for imported goods continues to do most of the hard yards, that is largely out of the RBNZ’s control.

More important is domestic inflation which the RBNZ has influence over – to some extent.

Home construction costs have swiftly responded to high interest rates. The March quarter saw costs fall steeply to 3.3% year-on-year - a far cry from the 18.3% year-on-year peak in 2022.

Other less interest-rate sensitive components of domestic inflation are, however, moving in the wrong direction.

The rise in rental inflation is a particular frustration as it alone makes up 9% of the CPI. The surge in migration continues to drive rents, which are estimated to have jumped about 1.2% over the June quarter. Annually, rental inflation continues to rise higher at 4.8% - well above the 3% pre-covid rates.
Insurance and council rates will also be ones to watch. Both have risen in the face of higher interest rates. Debt-burdened councils have hiked rates by double-digits.

Services sector inflation has yet to pivot south. Demand rotated away from goods and toward services as the economy emerged from covid. Labour market tightness led to record-high wage growth and was another driver of services inflation. However, recent data suggests limited headroom.

Business pricing intentions have clearly weakened as high interest rates curb consumer demand, and wage growth is slowing. Both should feed through to a slowing in services inflation.

Prices for recreation and culture have shown resilience in the face of rising interest rates. But following the holiday period, we expect to see some softness in accommodation costs over the June quarter.

Westpac senior economist Satish Ranchhod also expects to see a solid rise in the cost of utilities, like electricity.

“Balanced against those increases, recent months have seen softness in areas related to travel, including airfares and accommodation costs.”

Even though the bank is estimating prices for imported inflation over the June quarter are up to just 1% over the past year, in contrast prices for domestic inflation will be sitting at 5.3%, down from the highs of last year, but still well above what the RBNZ will be comfortable with.

Tags: RBNZ