The Aussie dollar took off after yesterday’s stronger than expected rise in inflation in the December quarter, jumping more than half a cent to around 88.88 USc overnight.
That was the highest level in a week or more, and due to the usual knee jerk reaction from traders looking to trade a story and ignore the context.
It then retreated to be around 88.40 this morning in early Asian trading.
Inflation grew by 0.8% in the three months to December after a 1.2% rise in the third-quarter, taking the annual rate to 2.7 %.
Annualising the final two quarters, it was a 4% rise, which is on the high side.
Economists had forecast an 0.4% quarterly rise, for an annual growth of 2.4%.
The Reserve Bank’s favoured measures, the trimmed mean and the weighted median both rose by 0.9% in the quarter, up from 0.65% in the September quarter, to push the annual rate to 2.6% from 2.3% in the September quarter.
Again, annualising the last two quarters gives a yearly rate of 3.1%, which is also a touch high.
While all readings for inflation were in the middle of the RBA’s 2% to 3% target range for inflation, there were signs of stronger than expected inflationary pressures.
But for the moment they will have no impact on the central bank’s thinking on the direction of interest rates because the RBA is still in a ‘wait and look mode’.
Inflation up, but rates won’t move
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The CPI this quarter will again be high because of technical reasons such as the way the drug prices are set, hospital costs, the lingering impact of the tobacco tax rise and higher government charges for a host of small fees which rose on January 1.
That’s partly why the bunnies in the currency markets think higher inflation means ‘rate rise looms,’ or rather, no more rate cuts.
Certainly interest rates yesterday moved from signally a possible rate cut, to a small change of a rate rise in the wake of the CPI’s release. But that presupposed that the RBA would continue cutting rates this year (as Westpac had been forecasting).
But the reaction in currency markets was a joke given the softness of the economy and the weak demand in some sectors, and the fact that the RBA has been saying for the past couple of months that it will sit and watch what happens in the economy.
That will again be the message from the board meeting in early February (Tuesday week) which will be the first statement from the bank and Governor Glenn Stevens for 2014.
It is also a joke if you stop and think about the public campaign from the RBA, led by Mr Stevens to talk the dollar lower. A change in market belief about the direction of Australian interest rates would stop that in its tracks.
Why would the RBA contemplate a rate rise now, when it wants the dollar lower, and for longer to assist the transition of the economy from the mining boom? Changing that approach is not on, and those in the market know that.
The weakness in parts of the economy was supported by the second monthly fall in a row in consumer confidence to its lowest level since July.
The Westpac–Melbourne Institute Index of Consumer Sentiment fell 1.7 to 103.3 points this month as November’s confidence, based on rising house prices, disappeared.
The AMP’s Dr Shane Oliver described the CPI report as "a disappointing outcome" which "substantially reduces the possibility of another rate cut from the RBA".
"However, while the increase in inflation will concern the RBA it’s not bad enough to bring on an imminent rate hike either as the annual inflation rate of 2.7% at the headline level or 2.6% for underlying inflation is still in line with the RBA’s inflation target and normal volatility may have exaggerated the latest rise in inflation.
"In fact excluding volatile items, like fruit and vegetables, inflation was just 0.6% in the quarter.
"We remain of the view that the RBA will continue to leave interest rates on hold at 2.5% for an extended period, ahead of a modest rate hike later this year around September/October. With economic growth still sub-par, with only early signs of improvement, and the $A arguably still too strong it’s too early for the RBA to consider raising interest rates", Dr Oliver said.
So why did the CPI rise?
The Australian Bureau of Statistics explained that "domestic holiday travel and accommodation rose primarily due to peak season price rises for both airfares and accommodation." And it was a similar story for offshore travel; "International holiday travel and accommodation prices rose primarily due to peak season price rises for airfares".
"Fruit and vegetable prices rose mainly due to a number of adverse weather events and deteriorating growing conditions in some areas" (which remains a growing concern, especially in Queensland).
"Tobacco prices rose primarily due to the effects of the federal excise tax increase from 1 December 2013 and a flow on effect from the indexed rise in the excise in August.
"Prices for new dwelling purchase by owner–occupiers rose mainly due to rising building materials and labour cost," the ABS said.
The tradables component of the CPI (40% of the weight in the index) rose 0.7% in the December quarter 2013 (prices for the goods and services in this component are largely determined on the world market).
The ABS said the most significant contributors to the 0.5% rise in the tradable goods component were fruit, vegetables and tobacco. The most significant offsetting falls in the tradable goods component was for automotive fuel. The rise in the tradable services component of 2.6% was driven by international holiday travel and accommodation. Tradbales rose 1% over the year.
The non-tradables component of the CPI (60% of the weight of the index) rose 0.8% in the December quarter 2013 (prices for the goods and services in this component are largely determined by domestic price pressures). The ABS said the non-tradable goods component rose 0.7% mainly due to new dwelling purchases by owner-occupiers. The most significant partially offsetting falls were for gas and other household fuels and breakfast cereals.
The non-tradable services component rose 0.8% mainly due to rises in domestic holiday travel and accommodation. The most significant offsetting fall in the non-tradable services component was for medical and hospital services. Over the year to June, the non tradables component rose 3.7%, which tells us most of the pricing pressures came from within the economy, aided by the boost from the weakening dollar.
