Inflation frenzy
I'll be on hols in Greece this week so somewhat limited blog posting is thus afoot.
On Wednesday morning at 11.30am Aussie time comes the most keenly awaited data release in...well, quite a long time!
The median market forecast is for consumer price inflation to increase by 1 per cent in the June 2024 quarter (which would equate to inflation of around 3.8 per cent over the course of the financial year).
The high watermark for the cycle was 7.8 per cent inflation over the year to December 2022, and things have been coming down the other side since that time.
Market forecasts for core inflation also see 1 per cent as likely for the June quarter.
Anything higher than that would no doubt send financial media into a full-blown meltdown, but let's see what happens.
As someone with some mortgage debt, I generally try to think of property ownership in 10-year chunks, and rarely worry too much about short-term noise (after all, if interest rates do go higher from here, they'll only be coming back down faster next year as the economy and housing construction turns to crud).
For what's it's worth, here's what financial markets are effectively implying for the cash rate target over the next 18 months, which is to say declining to 3.8 per cent.
And here's what the Reserve Bank forecasted for trimmed mean inflation at the latest Statement on Monetary Policy.
There will naturally be some bumps along the way, but policy is working and eventually annual inflation will head back down to target.
I'll most likely be on the beach in Faliraki on Wednesday, but it may be worth trying to remember all this when online and media commentary is screaming wildly at the Reserve Bank to hit the panic button...
The road ahead
Out of interest, why do market see interest rates as falling over the next 18 months?
Partly I expect due to the experience of what's happening in other parts of the world, particularly the US, where the persistence of inflation has receded to the lowest levels since all the way back in 2020.
At 2.06 per cent core the Federal Reserve should arguably be cutting interest rates immediately...
Other countries are winning the battle too, which is great, but what about in Australia?
Luci Ellis, Chief Economist of Westpac, wrote in a recent note that "we're just not that special", and that we could be cutting interest rates along with the rest as soon as November.
So although we could yet see another interest rate hike, by this time next year we'll most likely be seeing interest rates on the way back down again.
Some reasons?
Firstly, because the economy has slowed significantly, as evidenced by shrinking real retail sales over the past 15 months, falling GDP per capita over the past year, declining job advertisements, steadily rising unemployment, crashing building approvals, ballooning construction insolvencies...the list goes on.
With business insolvencies on track to hit a record high number in 2024, it seems that higher interest rates are already doing their job.
In terms of the CPI components, housing has been one of the largest contributors to inflation over the past few years, but building approvals have now slumped to the lowest level in a dozen years, which will take some of the pressure off capacity over the months ahead.
Indeed, CoreLogic has already reported that construction cost inflation has declined to a 22-year low just in the past quarter.
Asking rents have also declined by more than -1 per cent over the past quarter in the capital cities, pointing to flat or falling actual rental price inflation ahead.
This is precisely the opposite dynamic from the very rapid increases in housing rents seen over the past year.
Source: SQM Research
Crude oil futures settled below $80 last night, well below the RBA's assumed $84, which will work to shave more off inflation figures in the second half of 2024.
Furthermore, government policies are rolling out a range of subsidies to reduce inflation in power and energy bills, which will steadily take more effect as the year goes on.
There has also been some evidence of retail price discounting into the end of financial year, a softness which may persist later into 2024.
So while there are still some painful increases in insurance and education costs rolling through, for example, year-on-year inflation will very likely decline over the second half of 2024 and into 2025.
The prudential regulator APRA announced yesterday that it would keep macroprudential policies steady, with a large 3 percentage points lending assessment buffer in place despite the chronic shortage of housing which continues to build (note market forecasts are for lower interest rates over the years ahead).
I assume the idea is to hold the buffer in place until inflation is definitively beaten - which sucks for first homebuyers and for new apartment sales - but it does mean that lending policies should finally be loosened into 2025.
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