Good inflation news for the RBA

This week, the February 2025 Monthly Consumer Price Index (CPI) Indicator came in below market expectations, as the annual rate of growth in the indicator slowed to 2.4 per cent. With both key measures of underlying inflation also easing in year-on-year terms last month, there has now been a decent run of results printing within the inflation target band. All of which is welcome news ahead of next week’s RBA monetary policy board meeting. It adds another set of data points that – like the January Monthly CPI Indicator, the February 2025 Labour Force release and the December quarter 2024 National Accounts  – all suggest the RBA got it right when it cut the cash rate in February. We take a closer look at the latest inflation reading below.

Together, the last two monthly inflation numbers suggest scope for a Q1:2025 CPI reading to come in a bit lower than previously expected. Granted, it is unlikely the RBA has yet seen enough to allow Martin Place to be comfortable delivering a second rate cut next week, not least given the extremely cautious rhetoric it deployed around the previous move. Financial markets seem to agree. At the time of writing, they were assigning a more than 90 per cent probability to no change at April’s monetary policy meeting. Even so, the latest inflation numbers remain pleasingly consistent, with the possibility of a soft landing for the Australian economy.

The other big domestic economic news this week was the release of Budget 2025. My headline assessment was published on budget night and is available here. Except for a modest tax cut, there were few surprises, good or bad. But for those yet to overdose on budget analysis, we dig into some more detail. You can also join us for the latest episode of the Dismal Science Podcast for extra analysis.

Finally, US-driven disruptions to global trade roll on. This week saw the Trump administration announce it was tweaking plans for the 2 April 2025 ‘Liberation Day’ imposition of reciprocal tariffs by postponing the introduction of industry-specific measures. This occurred as it also pledged that other measures would go ahead as scheduled. Later in the week, it declared that the United States would impose a 25 per cent tariff on global automotive imports (covering both finished cars and parts) into the United States with effect from 3 April this year. Concerns about the implications of the elevated level of policy volatility and uncertainty for US financial markets and economic activity are so far failing to constrain the White House on trade policy.

Monthly inflation measures ease in February 2025

According to the ABS, the Monthly CPI Indicator rose 2.4 per cent over the year in February 2025. That was slightly below the market consensus forecast for a 2.5 per cent print and was also down a little on the January 2025 and December 2024 outcome (also 2.5 per cent).

Both ABS major measures of underlying inflation also eased last month. The annual rate of increase in the annual trimmed mean slowed from 2.8 per cent in January to 2.7 per cent in February, while inflation as measured by the CPI excluding volatile items and holiday travel fell from 2.9 per cent to 2.7 per cent. The annual rate of increase in the Monthly CPI Indicator has now been 2.5 per cent or less across the six months from August last year. The annual trimmed mean has been below three per cent for the past three months.

February’s good results on inflation reflected helpful developments for housing, automotive fuel, food and non-alcoholic beverages and some services:

• Annual housing inflation eased to 1.8 per cent from 2.1 per cent in January as rental inflation slowed to 5.5 per cent (its lowest rate since March 2023) from 5.8 per cent. Growth in new dwelling prices fell to 1.6 per cent (the lowest rate since May 2021) from two per cent. There was also a significant contribution from falling electricity prices, which declined 13.2 per cent over the year in February after having dropped by 11.5 per cent in January, reflecting the impact of Commonwealth and State government energy rebates.
• Automotive fuel prices fell 5.5 per cent over the year in February after having dropped by 1.9 per cent in January.
• The annual increase in the price of food and non-alcoholic beverages was 3.1 per cent last month, down from 3.3 per cent in January.

• Annual price increases in insurance and financial services slowed to 4.5 per cent in February from 5.3 per cent in January as the rate of increase in insurance prices dropped to 7.6 per cent from 11 per cent. Annual growth in Education prices fell from 6.5 per cent to 5.6 per cent.

More on Budget 2025: Checking off ‘six things to keep an eye on’

As noted earlier, a high-level overview of Budget 2025 is available in my budget night assessment. Here, we return to last week’s Budget Preview which suggested six things to keep an eye on. Several days on from budget night, what did we learn on each of those six points?

First, and as expected, the Treasurer confirmed that Australia’s fiscal accounts have moved firmly back into the red. The underlying cash balance is now set to remain in deficit from the current fiscal year all the way through until 2025-36. That end date is one year later than in the December 2024 Mid-Year Economic and Fiscal Outlook (MYEFO) projections, which had the budget returning to surplus in 2034-35. (A quick aside here: Budget 2025 divides projections into two periods: Budget estimates cover 2024-25 through to 2028-29, while the Budget medium-term projections cover the years between 2029-30 and 2035-36. Although the medium-term projections are useful in that they tell us something about what current policy settings imply for future fiscal sustainability, the uncertainty around these numbers as we move deeper into the future is high and they are best treated as illustrative.) 

As flagged by the Treasurer ahead of time, fiscal estimates in the projections presented in Budget 2025 differed only modestly from those in the MYEFO. The estimated deficit in the underlying cash balance for the current fiscal year is now expected to be slightly larger than anticipated in December ($27.6 billion vs $26.9 billion) while in 2025-26 the shortfall is forecast to be slightly smaller ($42.1 billion vs $46.9 billion). Across the five years of Budget estimates, the cumulative deficit to 2028-28 is now expected to run at $179.5 billion, which is down a little from $181.1 billion in the MYEFO.

Look out into the medium term, and Budget 2025 assumes that deficits as a share of GDP will be larger for longer, compared to their MYEFO trajectory. But even then, the projected gradual reduction in the deficit as a share of GDP over time is heavily reliant on what look to be pretty optimistic assumptions. These include a dramatic slowdown in the rate of growth of government spending. For example, expressed in real terms, growth in government payments is forecast to slow from six per cent in 2024-25 to three per cent in 2025-26, before plunging to just 0.5 per cent in 2026-27. It will head up again (to 1.7 per cent in 2027-28). On a per capita basis, that means real payments would have to fall to below their forecast 2025-26 levels in 2026-27 and then again in 2027-28.

Unsurprisingly, the flow of red ink means government debt is set to rise in the near-term. Net debt (given by gross government debt less selected government financial assets) is projected to increase from 19.9 per cent of GDP in the current fiscal year to 23.1 per cent of GDP by the end of Budget estimates and then climb further to a peak of 23.8 per cent of GDP in 2029-30.  Net debt as a share of GDP is now forecast to be higher than in the MYEFO across both Budget estimates and the medium term, due to the impact of a reduction in Future Fund investments, loans and placements on the asset side as well as due to the consequences of lower yields (which means higher prices) for the outstanding stock of Australian Government Securities.

On a gross basis, government debt is now projected to be lower than in the MYEFO in dollar terms by the end of the Budget estimates period, but higher as a share of GDP. The latter reflects a slight budget downgrade to the forecast for nominal GDP.

Second, and despite all the global economic policy uncertainty of the past couple of months, Treasury’s forecasts for the Australian economy in Budget 2025 were little changed compared to those presented in the MYEFO. Most importantly, Treasury still expects a soft landing. Growth is forecast to pick up in 2025-26, inflation to return to target and the unemployment rate to peak at just 4.25 per cent. This view is broadly consistent with that recently expressed by the RBA. That is, that under most scenarios, the direct impact of US-led trade disruption on the Australian economy is likely to prove quite limited and that while the indirect consequences (largely via China) could be considerably larger, they are still likely to be modest overall.

Third, Budget 2025 did enjoy a helpful boost from so-called parameter and other variations, which improved the budget bottom line by a cumulative total of $36.4 billion over Budget estimates, relative to the numbers presented in the MYEFO. One large chunk of that improvement reflects $8.5 billion of higher tax receipts, mainly due to stronger employment but also higher company tax receipts on the back of bigger than forecast mining sector profits. At the same time, payments were also projected to be $28 billion lower over the five years of estimates, due to lower estimated spending on the NDIS, the Commonwealth Debt Management program and on road and rail transport projects.

Note, however, that any benefits to the budget bottom line arising from these parameter changes were largely offset by policy decisions taken by the government that collectively worsened the fiscal position by $34.9 billion over the same period. Key drivers here include the $17.1 billion cost of the government’s new tax cuts over the five years of Budget estimates and the $8.4 billion cost of the government’s measures to improve access to affordable health care, including changes to increase access to bulk billing.

Fourth, Budget 2025 highlighted that the same seven major drivers of payment growth over the medium term will continue to grow faster than the tax base (as captured by nominal GDP growth), although there were some reductions in growth rates relative to the projections reported in MYEFO. The latter was particularly the case for interest payments, where expected growth has been scaled back from an annual average rate of 10.9 per cent to a still rapid 9.5 per cent.

Fifth, the government’s surprise announcement of a modest tax cut served to push down the tax to GDP ratio relative to that projected in the MYEFO. That in turn allows for the budget papers to remark that the average tax rate for a worker on average earnings will now not exceed 2023-24 levels until 2031-32. At the same time, the overall ratio of tax to GDP is estimated to fall to 23.1 per cent in the current fiscal year from 23.7 per cent in 2023-24, before rising again the following year. All of which suggests that the Treasurer and the government have been sensitive to recent criticism of undue budgetary reliance on income tax and bracket creep to deliver revenue growth.

That said, note that one key factor underpinning those narrowing budget deficits over the medium term (alongside the assumptions on spending restraint already highlighted above) is that after something of a pause over the Budget estimates period, the tax to GDP ratio is then assumed to resume its upward march from 2028-29 onwards, climbing all the way to 24.9 per cent by 2035-36.

Sixth and last, continuing the pattern of recent years, the gap between the underlying and headline cash balance remained substantial in Budget 2025. Granted, the difference between the two measures is slightly smaller than that presented in the MYEFO. Even so, the cumulative difference between the underlying and headline cash deficits over the five years of Budget estimates totals a fairly hefty $103.9 billion. In 2025-26, net cash flows from investments in financial assets for policy purposes (IFAPPs) will add about 0.8 per cent of GDP to the overall deficit position and that gap that is projected to remain at around 0.6 per cent of GDP by 2028-29.

Of the cumulative $103.9 billion in net cash flows for IFAPPs, some $25.9 billion reflects the impact of government policy on student loans, $21.2 billion relates to Clean Energy Finance Corporation (CEFC) loans and equity investments, $12.3 billion to Housing Australia and almost $12 billion to the National Reconstruction Fund Corporation (NRFC).

What else happened on the Australian data front this week?

The ABS published December quarter 2024 data on Finance and Wealth from the National Accounts. According to the Bureau, household wealth rose by $143.6 billion (0.9 per cent) to almost $17 trillion, up about $1 trillion relative to the same quarter a year before. While household wealth has continued to increase over time, two consecutive quarterly falls in house prices have slowed growth, relative to the first half of last year.

The Bureau also released updated statistics on Regional Population, reporting that Australia’s capital city population rose by 427,800 people (2.4 per cent) in 2023-24, reflecting a 373,000 increase from overseas migration, an 89,500 rise from natural increase and a loss of 34,600 from internal migration. Regional Australia’s population grew by a more modest 113,800 (1.3 per cent).

The S&P Global Flash Australia PMI Composite Output Index rose to 51.3 in March from 50.6 in February, hitting a seven-month high. The Flash Services PMI Business Activity rose to a two-month high, while the Flash Australia Manufacturing Output Index hit a 29-month high as growth in business activity in Australia accelerated across both the manufacturing and services sectors at the end of the first quarter of this year. According to S&P, stronger domestic demand contributed to the most pronounced increase in business new orders in almost three years. At the same time, however, firms reported a decline in confidence about activity over the next 12 months, partly reflecting increased global trade uncertainty. The survey results also showed that cost pressures intensified for businesses in March, as the rate of overall input cost inflation rose to its highest in seven months. Respondents cited higher raw material, transport and wage costs aggravated by a weaker Australian dollar. But firms also reported being reluctant to pass on these cost increases in full due to concerns over greater competition.

New ABS insights into job mobility.

The weekly ANZ-Roy Morgan Consumer Confidence Index was little changed for the week ending 22 March 2025, up just 0.4 per cent on the previous week. That marginal rise was driven by a 2.4-point jump in the ‘time to buy a major household item’ subindex, which has risen to its highest level of the year to date, on the back of sales events. Elsewhere, the ‘current financial conditions’ subindex slumped by 2.5 points, while ‘short-term economic confidence’ was down by 0.6 points. It is possible both falls reflect higher global economic uncertainty. At the same time, there were rises for the ‘future financial conditions’ subindex (up 0.8 points) and the ‘medium-term economic confidence’ subindex (up 1.8 points). Weekly inflation expectations rose by 0.1 percentage point to 4.9 per cent.

The ABS said total engineering construction work done in the December quarter 2024 rose 1.5 per cent over the quarter (seasonally adjusted) to be up 4.8 per cent over the year. Private sector work was up 1.9 per cent quarter-on-quarter and 0.7 per cent year-on-year, while public sector work done was up 1.1 per cent in quarterly terms and 9.6 per cent higher on an annual basis.

Other things to note . . .

• The Parliamentary Budget Office (PBO) has published its latest Budget Snapshot. The PBO has also released updated historical fiscal data.
• The Grattan Institute has launched its 2025 Orange Book which sets out what it thinks are major reforms and quick policy wins that would build a more prosperous Australia. Some examples include tax reform via broadening and/or widening the GST; supporting the states to replace stamp duty with a broad-based land tax while also changing planning law and processes to allow higher-density housing in inner-urban areas and established suburbs and moving towards universal childcare. Examples of the latter include reforms to skilled migration, increases to JobSeeker, a winding back of fuel tax credits and increases to Commonwealth Rent Assistance.
• Also from Grattan, a crib sheet on what Australians earn and own.
• A guide from the ABS on interpreting the Monthly Household Spending Indicator, which from July this year will be replacing the Retail Trade release.
• The AFR on whether US levies on Chinese shipping could trigger a ‘trade apocalypse’.
• The WSJ examines the trade war exploding across the global economy.
• Is the United States turning into an emerging market?
• The OECD’s Global Debt Report 2025 reckons global debt markets now have to navigate an environment in which debt levels are already high and increasingly costly, economic growth is slowing and geopolitical risks are rising. Sovereign bond issuance in OECD countries is expected to reach a record US$17 trillion in 2025.
• Lost generations? The IMF considers fertility and economic growth in Europe.
• Related, what can we learn from Korea’s demographic meltdown?
• In the FT, Tej Parikh outlines five optimistic scenarios for the global economy. US President Trump could walk back some of his tariff plans and European growth could surprise to the upside due to higher government spending and stronger stock markets and/or because a ceasefire in Ukraine could lead to lower energy prices, improved market sentiment and stronger business and consumer confidence. China’s economic growth could also prove stronger than expected, perhaps due to improved private sector confidence due to DeepSeek’s progress with AI, as well as with fiscal stimulus from Beijing. US growth could yet be lifted by the tax cuts and deregulation previously promised by the new administration and faster AI adoption could also help. Finally, central banks could end up lowering interest rates faster and further than expected if labour markets continue to cool.
• Also from the FT, China is suffering its own ‘China shock’ as employment in labour-intensive manufacturing declines in response to low-wage competition from overseas.
• Are interest rates our greatest invention?
• A look at the impact of AI and machine translation on employment, wages and the demand for foreign language skills.
• Humanity 2.0. An Economist magazine briefing on the human ‘enhancement’ industry. Related, the WSJ examines the longevity business.
• The UBS Global Investment Returns Yearbook
• Are humans now in a forever war with Avian influenza?
• The Joe Walker podcast asks Peter Tulip, what would it actually take to solve Australia’s housing crisis?
• The Sinica podcast in conversation with Jeffrey Ding about China and technology diffusion.