The Q4 CPI data has printed and it was generally better (that is lower) than anticipated. The RBA has some big decisions to make at their coming meeting.
The Q4 CPI data was hotly anticipated in the economics world since the RBA is considering cutting rates soon. They may or may not decide to in February, but it won’t be long before that rate cut comes – particularly if the CPI data keeps behaving like this most recent print.
Simply put, the headline inflation rate was +0.2% on the quarter and +2.4% on the year. That number, however, is affected by a number of one-off effects. The Government rebates for electricity continue to flow through the system while an error in the calculation of child-care was also corrected. Both of these served to lower inflation as recorded in the headline measure.
The RBA has been pointing to the trimmed mean measure of inflation as being more representative of the true state of affairs. The trimmed mean measure rose 0.5% on the quarter to be up 3.2% on the year. That was a little lower than market expectations (which had been for 0.6%) and also lower than the RBA’s forecasts from the November Statement on Monetary policy, which implied +0.7%.
The data looks even better when you consider the last six months. There, the last six months of trimmed mean inflation annualises to a growth rate of 2.65%. That’s much closer to the mid-point of the target band, but also still above 2.5%. The RBA will be pleased with this development.
The fall in inflation is because the inflation in the costs of goods is falling very quickly, while the inflation in the costs of services is essentially stable. There has not been much movement in services prices, but goods prices are now barely moving. This is a very common state of affairs, with something very similar playing out in 2012 when the inflation rate first began to fall. But the comparison to 2012 also shows that the sharp fall in goods prices does not mean that services prices must inevitably follow. It took several years for services price inflation to fall back below 3% in that cycle.
The difficulty for the RBA is that the dramatic fall in goods prices is very unlikely to continue at this incredibly low rate. At present we have the confluence of the abating of the immediate post-pandemic movement higher while the petrol prices are also co-operating and contributing negatively to CPI. Those are unlikely to continue to be quite so low in coming quarters and years, meaning that it is important that services CPI begins to measurably fall too before inflation can be considered fully dealt with.
One curious result today was that many of the larger cities in Australia actually saw inflation fall on the quarter. In fact, Hobart had far and away the highest result this quarter at +1.5%. It’s normal to see some variation but this level of variation is quite marked.
For the RBA, the case is there in the data such that, if they want to, they will have no trouble justifying a rate cut should they choose to do so. This was, unequivocally, a “good CPI print”.
However, the RBA also said that the rate cut would need to be driven by “more than one good CPI print”. The other data the RBA will look at is far less conducive to a rate cut. We’ve written extensively on the labour market (see the Macro Outlook, for example) and can’t help but say that an unemployment rate of 4.0% is probably still stronger than the RBA believes is sustainable, particularly given that labour productivity is weak.
The RBA has left the official cash rate on hold now for over a year (the last move was November 2023). However, so many other things have moved that the same cash rate now has an appreciably different effect. When the cash rate was 4.35% but inflation was over 5.4%, the real cash rate was materially negative. Against the inflation rate of 2.4% the current real cash rate is +2.1%. Quite a material change considering the RBA didn’t make any direct changes. This would argue for a drop in the cash rate since the impact of the real cash rate would make borrowing more difficult.
But we also need to check the data. As time passes people become acclimatised to the cash rate. It’s not just the level of the cash rate that matters, it’s the recent dynamics. For a great example of this effect look no further than the current growth rate of credit usage in the economy. The amount of credit extended in December 2024 was 6.2% higher than the previous year. The cash rate can’t be so high if the amount of credit usage in the economy is rising so quickly.
All in all, the CPI data has been well behaved in this quarterly print and the RBA will seriously consider cutting rates at the meeting on the 18th February. However, while the case for a rate cut is strong, and growing, there are still risks in the other direction, too, particularly for services CPI.