Inflation back below three per cent

After more than three years, headline inflation is finally back within the RBA’s two-to-three per cent target band. The September quarter 2024 Consumer Price Index (CPI) rose by just 2.8 per cent over the year to deliver Australia’s lowest inflation reading since the March quarter 2021. Meanwhile, the September Monthly CPI Indicator inflation rate has fallen to just 2.1 per cent. That marks the best monthly result since July 2021.

So, mission accomplished for the RBA? Not quite. That return to target comes with an asterisk attached, because the decline in the headline rate was mainly the product of energy price rebates from the federal and some state governments, plus a helpful assist from lower fuel prices. In recognition that this effect is likely to prove temporary in the absence of extended government support, the RBA has already signalled it will be paying less attention to the headline rate and more to underlying inflation. Still, there was also positive news regarding the latter, with the annual rate of increase in the trimmed mean slowing from four per cent in the June quarter to 3.5 per cent in the September quarter. Which is the lowest rate of underlying inflation recorded since the end of 2021.

What does all this mean ahead of next week’s RBA meeting? The inflation numbers do not look good enough to make a compelling case for a November rate cut. Underlying inflation is still above target and services inflation remains disappointingly persistent, with the annual rate of increase in the latter actually ticking up in the September quarter. At the same time, however, the direction of travel overall in terms of disinflation is positive enough to keep hopes alive for a first rate cut early next year, albeit with the risks to my forecast of a February rate cut now skewing later. Financial markets, for example, currently reckon we will have to wait until April or May 2025.

This week’s data on retail sales provided a similarly mixed message. On the one hand, volumes grew over the September quarter, registering their first quarterly growth since the December quarter of last year. That suggests at least some of the boost to disposable income from the budget’s tax cuts and other measures is being spent. On the other hand, overall growth was still weak and in per capita terms volumes contracted for a ninth consecutive quarter.

More detail on inflation numbers and other data releases below. This time the linkage roundup includes the COVID-19 response inquiry report, the PBO’s new National fiscal outlook for Australia, papers from the RBA’s conference on central bank comms, the PC Chair on Australia’s fraying generational bargain, the UK’s big tax and spend budget, an obituary for Bidenism and post-mortems on what went wrong at Boeing.

Please also join us for this week’s episode of the Dismal Science Podcast.

Headline inflation lower…but underlying inflation is not

Australia’s Consumer Price Index (CPI) rose 0.2 per cent over the September quarter 2024, to be up 2.8 per cent over the year. According to the ABS, this was the lowest quarterly outcome since the June quarter 2020 (which saw prices fall 1.9 per cent following the introduction of free childcare during the pandemic) and the lowest annual rate since the March quarter 2021. It also marks the first time that the headline inflation rate has been below three per cent – the top of the RBA’s target band – since that same March quarter 2021.

The result was a little better than market economists’ forecasts. The median projection had expected the headline CPI to rise by 0.3 per cent over the quarter, down from one per cent in the June quarter, and had anticipated an annual inflation rate of 2.9 per cent, down from 3.8 per cent in the June quarter.

As suggested by those numbers, a substantial slowdown in the headline rate in the September quarter had been widely anticipated. The key driver was a fall in electricity prices, which dropped by 17.3 per cent over the quarter to be down 15.8 per cent in annual terms. The quarterly fall was the largest on record and reflected the impact of the Commonwealth government’s $300 Energy Bill Relief Fund rebates, along with state measures in Queensland, Western Australia, and Tasmania (see the ABS table below). In the absence of this government intervention, the ABS estimates that electricity prices would instead have risen 0.7 per cent over the quarter.

Another important contributor to the fall in the headline rate was a decline in automotive fuel prices, which were down 6.7 per cent quarter-on-quarter and 6.2 per cent year-on-year. Quarterly unleaded petrol prices averaged $1.84 over the quarter, down 13 cents per litre relative to both the previous quarter and the same quarter last year. Strikingly, petrol prices are now at their lowest since the June quarter 2023. As we’ve discussed before, the combination of low oil prices with high geopolitical uncertainty in the Middle East makes for a strange mix (the apparent discrepancy is explained by soft global demand), and is a reminder that to some extent the domestic inflation story remains subject to some very obvious external risks, and not just the RBA’s familiar concerns about persistent services inflation.

Elsewhere in the CPI basket, new dwelling purchases by owner-occupiers rose one per cent over the quarter and 4.8 per cent over the year, as builders continued to pass on higher labour and building material costs. Rental price inflation also remained strong, running at 1.6 per cent in quarterly and 6.7 per cent in annual terms, even after taking the impact of increased Commonwealth Rent Assistance (CRA) into account. Absent those increases to CRA, rental inflation would have instead been 8.5 per cent.

The large falls in electricity and fuel prices contributed to overall annual goods inflation of just 1.4 per cent in the September quarter, down from 3.2 per cent in June. The remaining increase in prices was largely driven by a mix of price rises for new dwellings, tobacco and food prices (where there were strong gains for fruit and vegetables prices due to unfavourable growing conditions, higher chocolate prices because of record high cocoa prices due to a poor harvest in West Africa and higher egg prices due to supply shortages caused by the ongoing bird flu outbreak).

In contrast, the rate of services inflation picked up slightly in the September quarter, edging higher to 4.6 per cent from 4.5 per in the June quarter. Higher prices for rents, insurance, health and education were all contributors.

Services inflation has now been ‘sticky’ at above four per cent since mid-2022 and has been running at around 4.5 per cent for the past year. So, while much of the September quarter release delivered good news, the persistence of price pressures here was less positive.

Consistent with the goods vs services dynamic, the annual rate of tradables inflation fell to just 0.6 per cent in the September quarter, while non-tradables inflation remained elevated at 4.1 per cent.

As already noted, with the headline inflation rate heavily influenced by government intervention, the RBA has said it will pay more attention to measures of underlying inflation such as the trimmed mean. The latter rose by 0.8 per cent over the quarter and 3.5 per cent over the year. Both were in line with market consensus forecasts.

While the exclusion of the impact of falling electricity and fuel prices meant that the slowdown in underlying inflation was not as dramatic as that shown by the headline rate, the Q3:2024 result still represents progress relative to the previous quarter’s (upwardly revised) 0.9 per cent quarterly and four per cent annual rates of increase.  At 3.5 per cent, the annual rate of underlying inflation is now at its lowest since the December quarter 2021 and has already arrived at the RBA’s forecast end of year rate.

One last point worth noting. The gap between the rate of inflation on essential (or non-discretionary) and discretionary items narrowed to just 0.2 percentage points last quarter, with the former up 2.9 per cent and the latter 2.7 per cent. That difference has shrunk from close to two percentage points in the December quarter 2023 and June quarter 2024, and closer to four percentage points in the first half of 2022.

Monthly CPI Indicator up 2.1 per cent year-on-year

Along with the quarterly CPI numbers, this week also brought the release of the Monthly CPI Indicator for September 2024. This was up just 2.1 per cent over the year, down from 2.7 per cent in August and marking the lowest result since July 2021. The outcome was also below market expectations for a 2.3 per cent print.

Once again, lower fuel and electricity prices drove the action in terms of the headline rate, as electricity prices fell 24.1 per cent over the year to September, following a 17.9 per cent annual fall in August and marking the largest annual fall in the history of the monthly Electricity series. Similarly, automotive fuel prices were 14 per cent lower than in September last year, after having fallen 7.7 per cent over the 12 months to August.

Strip out these effects and the monthly numbers still show slowing inflation, but at a more modest rate. The annual rate of increase in the monthly CPI, excluding volatile items and holiday travel, fell to 2.7 per cent in September from three per cent in August (the first sub-three per cent reading since December 2021) while growth in the Annual Trimmed mean eased to 3.2 per cent from 3.4 per cent over the same period (the lowest reading for this series since January 2022).

What else happened on the Australian data front this week?

According to the ABS, the volume of retail turnover grew by 0.5 per cent over the September quarter 2024 (seasonally adjusted) to be up just 0.2 per cent over the year. That increase was in line with the market consensus forecast and followed two consecutive quarterly and five consecutive yearly declines. This is only the second time quarterly volume growth has been positive in the past two years. Meanwhile, in per capita terms, retail volumes contracted for a ninth straight quarter, declining by 0.1 per cent over the quarter and by 1.9 per cent over the year.

Nominal retail turnover edged higher by 0.1 per cent over the month of September to be up 2.3 per cent in annual terms. That monthly growth was weaker than the consensus forecast (0.3 per cent) and down from August’s 0.7 per cent result, which the ABS said had been boosted by warmer-than-usual weather.

The ABS reported that total dwellings approved rose 4.4 per cent over the month (seasonally adjusted) in September 2024, to 14,842. That was 6.8 per cent higher than approvals in the same month last year. Approvals for private sector houses rose 2.2 per cent over the month and 16.7 per cent over the year to 9,745. Approvals for private sector dwellings excluding houses were up 4.7 per cent month-on-month at 4,653. But that was down 12.2 per cent relative to September 2023. As a reminder, the government’s target for 1.2 million new homes implies a monthly construction rate of around 20,000 dwellings.

Australia’s export price index fell 4.3 per cent over the September quarter 2024 to be down 6.8 per cent over the year, while the import price index was down 1.4 per cent quarter-on-quarter and down 1.1 per cent year-on-year. The ABS noted that prices for Australia’s major export commodities have now fallen for three consecutive quarters, citing ongoing weakness in the Chinese property market which has impacted demand for steel and therefore exports of iron ore and metallurgical coal.

The ANZ-Roy Morgan Consumer Confidence Index slipped by 1.1 points to 86.4 in the week ending 27 October2024. Despite the partial retreat in the index following last week’s 4.1-point jump, it remained above the 85 mark for a second consecutive week for the first time since January 2023. Weekly inflation expectations edged higher by 0.1 percentage point to 4.6 per cent.

Last Friday, the ABS reported that the Australian economy grew 1.4 per cent in real terms in 2023-24. According to the 2023-24 Australian System of National Accounts, GDP per capita shrank by one per cent, labour productivity was flat over the year, real unit labour costs rose 3.4 per cent, the household saving ratio fell to 2.5 per cent, the GDP chain price index rose 2.7 per cent and our terms of trade fell 6.3 per cent.

Other things to note . . .

The COVID-19 Response Inquiry Report has been released. It presents nine guiding recommendations and 26 actions. Chapters 20 to 24 cover the economic and industry response. Some highlights from Chapter 20 (Managing the economy) include:

• Treasury now estimates the total cost of the Australian Government’s direct economic and health response to the pandemic at $343 billion or 16.6 per cent of GDP.
• The report concludes that, although Australia was largely unprepared for a pandemic-induced economic crisis (economic impacts were not featured in national pandemic plans, for example) ‘the response during the alert phase of the pandemic was excellent’ as the government ‘delivered an unprecedented amount of economic support very rapidly and in proportion to the size of the downturn’.
• But it also notes that the lack of prior planning meant the Australian government had to develop its economic policy response at the same time as dealing with a major health crisis and this ‘led to compromises in policy design, which increased the fiscal costs of supports, led to unintended economic impacts and diminished the effectiveness of the government’s response’.
• The report then goes on to say that, with the benefit of hindsight, ‘the levels of support remained too high during the suppression and vaccine rollout phases. This resulted in overcompensation of both businesses and individuals for losses.’ Although the report does add that it ‘agrees with most stakeholders that the greater error would have been to provide too little economic support’.
• In the post-vaccine phase, the judgement is that with the benefit of hindsight, ‘the combined effects of fiscal and monetary policy on aggregate demand were larger than necessary to secure the economic recovery. This increased the fiscal cost and contributed to high inflation coming out of the pandemic’.
• The Parliamentary Budget Office (PBO) has released its 2024-25 National fiscal outlook for Australia. According to the PBO, the outlook has improved since its 2023-24 report due to a stronger Commonwealth budget position. That has been enough to more than offset a worsening in the fiscal position across the states and territories and as a result, all the main budget aggregates, except for public debt interest payments, have improved as a share of GDP at the national level. The PBO’s fiscal sustainability framework also shows a stronger long-term outlook, finding a likely sustainable fiscal position in all but two of the 27 scenarios it examines. And even in the worst scenario, the projected debt to GDP ratio is now expected to be 15 percentage points of GDP lower than estimated last year.
• The draft papers presented at the 2024 RBA Conference are available. This year the topic was Central Bank Communications.
• Productivity Commission Chair Danielle Wood’s recent speech on Australia’s fraying generational bargain.
• The ABS provides an updated FAQ for the Consumer Price Index (CPI) and also explains how owner-occupied housing is measured in the CPI.
• In the AFR, Michael Read reckons Australia has passed peak property investor, after the share of taxpayers declaring rental income fell to a 12-year low in 2022.
• A submission from the Grattan Institute’s Tony Wood and Alison Reeve on preparing for the energy transition.
• The economic case for air conditioning all Australian schools.
• The General Manager of the BIS offers his take on risks facing the global economy.
• Brad Setser says globalisation has proved to be surprisingly resilient, although he also cautions that the current round of international economic integration is largely the product of ‘unhealthy’ phenomena including MNC transfer pricing games in the service of tax avoidance and excess Chinese reliance on exports.
• IMF Regional economic outlooks for Asia and Pacific, Europe, the Middle East and Central Asia, Sub-Saharan Africa and the Western Hemisphere.
• The McKinsey Global Institute identifies 18 future arenas of competition that could reshape the global economy. ‘Arenas’ here refers to a subset of industries that McKinsey says are characterised by high growth and dynamism. So, for example, the 12 arenas of today’s global economy – which include e-commerce, electric vehicles, consumer internet, cloud services, semiconductors and software – tripled their global share of GDP from three to nine per between 2005 and 2020. The 18 future arenas have a reasonable degree of overlap with the previous list but also include new contenders such as batteries, cybersecurity, shared autonomous vehicles, future air mobility, modular construction and nuclear fission power plants.
• According to the UN’s Emissions Report Gap 2024, as the deadline for countries to submit their next nationally determined contributions (NDCs) nears, unless global emissions in 2030 are brought below levels implied by existing policies and current NDCs, ‘it will become impossible to reach a pathway to limit global warming to 1.5C with no or limited overshoot…and [will] strongly increase the challenge of limiting warming to 2C.’ Total greenhouse gas (GHG) emissions rose 1.3 per cent in 2023 to a record 571.1Gt of CO2 equivalent, with particularly rapid growth in emissions by China (the world’s largest emitter at 30 per cent of total GHG emissions, up 5.2 per cent), and India (the third largest emitter at eight per cent of emissions, up 6.1 per cent). Emissions for the United States (the second largest emitter at 11 per cent of the total) and the EU (fourth largest at six per cent) were down 1.4 per cent and 7.5 per cent, respectively. That 1.3 per cent rise in global emissions is above the average 0.8 per cent annual growth rate in emissions recorded over 2010-2019.
• The Economist magazine has a briefing on GLP-1 drugs like Ozempic, which it reckons rank among the most important drug breakthroughs ever.
• The WSJ analyses what went wrong at Boeing. According to the story, potential villains include ‘a culture that put financial engineering before aerospace engineering, an outsourcing strategy that shifted work to lower-cost factories or suppliers, a pursuit of production goals over safety goals and distant leadership removed from employees.’ Related, an FT Big Read asks, Can anyone fix Boeing?
• In the LRB, Adam Tooze writes on great power politics and the end of Bidenism. According to Tooze, ‘If financial crisis haunted Obama and the pandemic brought disaster to Trump, it is under Biden that the prospect of great power war has shifted from Pentagon planning documents to a manifest threat.’
• The UK’s Office for Budget Responsibility offers its take on the new UK government’s October 2024 Budget, which it says ‘delivers large increases in spending, tax, and borrowing.’ Spending is going up by almost GBP70 billion annually (two-thirds on current, one third on capital spending) over the next five years. Roughly half of this is to be funded through GBP36 billion of tax increases – the biggest increase for a generation, according to the FT, with the largest burden falling on employer payrolls – which will push the tax take to a record 38 per cent of GDP by the end of the decade. The balance is funded by an annual GBP32 billion of borrowing. The FT’s Martin Wolf reckons the budget marks the burial of Thatcherism and heralds a permanently bigger state as the size of government is projected to rise towards 44 per cent of GDP, almost five percentage points higher than pre-pandemic.
• Florence’s Medici family as an historical case study of the interaction between wealth concentration and politics.
• A Grattan Institute podcast discusses recent developments in Australian housing policy.