Why a softer June CPI may not mean the RBA is finished

Australia’s June labour-force figures will be released on Thursday, 23 July, followed by the June CPI figures on Wednesday, 29 July. Together, these releases will be closely examined for evidence as to whether inflationary pressures are easing sufficiently to allow the RBA to conclude that its monetary-policy tightening cycle is complete.

A comparatively benign June inflation result should not, in our view, be taken as confirmation that the RBA has finished tightening. The June period continued to benefit from the full temporary reduction in fuel excise, but that support was partially withdrawn from 1 July and is scheduled to be removed entirely in August. We think that renewed tensions in the Middle East and higher global oil prices will add a further source of upside risk. Together, these factors could produce a noticeable rebound in petrol prices and subsequently feed into freight, aviation, food distribution and broader business costs during the September quarter.

More importantly, Australia’s inflation problem is not confined to energy. Persistent pressure remains across housing, rents, construction, insurance, utilities, health, education and other labour-intensive services. Weak productivity growth continues to keep unit labour costs elevated, while government spending that remains excessive relative to the economy’s available capacity is adding to demand, intensifying competition for scarce labour and materials, and offsetting some of the restraint being imposed on households through higher interest rates.

Against this backdrop, we believe markets should be cautious about drawing strong conclusions from a single softer CPI release. Unless underlying and non-tradables inflation show a sustained and broad-based decline, a June lull may prove temporary. We think the unemployment figures will also need to demonstrate more than a marginal softening in labour-market conditions before materially changing that assessment.

The two July releases will provide important new information, but we doubt they are likely to settle the monetary-policy outlook in isolation. We believe the RBA is likely to require a continuing sequence of weaker inflation and employment data before concluding that inflation has been contained. Against this backdrop, we see the current market confidence that the rate-increase cycle is complete appears premature, particularly while underlying inflation remains persistent and several identifiable sources of renewed price pressure are still working through the economy.