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Inflation looks set to have fallen below the middle of the Reserve Bank’s 1-3% target range during the June quarter, according to bank economists. The market is expecting quarterly inflation to rise by around 0.5% from March, with an annual rate of around 1.8%.

Annual inflation was 3% in the March quarter, having fallen from a recent high of 5.1% in September last year. The Consumer Price Index (CPI) for the June quarter is set to be released at 10:45am on Thursday July 16.

Westpac economists said they expected quarterly inflation to be 0.4%, with an annual rate of 1.7% from June last year. They expect a rise transport prices to make the biggest contribution to the figures, with household related prices being the second largest contributor to price growth.

Westpac economists said a notable feature of the June CPI outlook is that food prices are expected to show no inflation over the quarter.

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Pump prices for both petrol and diesel have been stable for the past three weeks or so, even though both crude oil prices, and the exchange rate, have been moving around reasonably aggressively.

During March, the trend was for rising crude oil prices, although they have fallen back a little in early April. The NZ$, on the other hand, has been strengthening significantly. These two changes have tended to cancel each other out.

But the net impact has been to enable the petrol companies to hold their gross margin to import, refine, and distribute unleaded 91 at 36c/litre, 20% above the five-year average for this measure of 30c/litre.

Taxes, however, take twice the amount of the petrol company margin, at 44.2% of the pump price.

New Zealand’s terms of trade fell 2.3% in the September quarter as the cost of imports rose more than the cost of exports, Statistics New Zealand said.

The fall means that 2.3% less merchandise imports could be funded by a fixed quantity of merchandise exports than in the June 2008 quarter.

BNZ had forecast a 5% quarterly fall in the terms of trade, Westpac forecast a 2.2% fall, while ASB had forecast a 2% rise. The market consensus was for a 2.6% fall.

The import price index had its biggest quarterly rise since the September 1984 quarter. It rose 11.4% in the September quarter with the petroleum and petroleum products price index recording its largest rise (31%) since the December 1990 quarter in which it rose 66.3%.

“When petroleum and petroleum products are excluded from the total imports index, the movement in the September 2008 quarter is a rise of 7.4%,” Government Statistician Geoff Bascand said.

The export price index rose 8.6% with the food and beverage index rising 8.4% and the dairy products index rising 7.4%.

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By BNZ Markets’ Stephen Toplis

Inflation is collapsing. We expect almost zero movement in prices over the next six months. Accordingly, annual inflation will come very close to the low edge of the Reserve Bank’s 1 to 3% target band by this time next year. More importantly, we believe that, at long last, inflation will then be contained within that band for the foreseeable future.

This being so, the central bank has the green light for further substantial aggressive reduction in its cash rate. A green light that will shine even more brightly as liquidity constraints begin to relax and inflation expectations fall sharply. Consequently, we have further lowered our interest rate track and now expect a 100 basis point cut at the December MPS followed by a further 50 in January. More importantly, we now envisage a trough in the cash rate of 4.50% by mid next year. Furthermore, we still see the risk being that more easing than we are forecasting will eventually come through.

We stress that it is our view on inflation that permits the Reserve Bank to be so aggressive not the fact that the Australians have just eased (or any other central bank for that matter). It pays to remember that, amidst all this turmoil, the RBNZ’s objectives have not changed. Thus, policy must be targeted first and foremost around its inflation objective.

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A near doubling of wholesale electricity prices was the major factor driving inflation in the costs of inputs for businesses to 11.8% in the June quarter from a year ago. (Updated below to include comments from JP Morgan’s Helen Kevans and ANZ National’s Khoon Goh)

This was the highest level since September 1985 and input inflation between the March and June quarters of 5.6% was the highest since the March 1980 quarter. This 5.6% quarterly inflation was more than double the market’s forecasts for inflation of around 2.6%.

Business outputs inflation in the June quarter from the March quarter was 3.5%, which was again more than twice economist expectations. Business output inflation for the June quarter from a year ago rose to 8.5% from 6.1% in the June quarter.

The quarterly outputs inflation was the highest since the June quarter of 1985 and the annual inflation was the highest since the September quarter of 1987.

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Analysis of official income and expenditure data by interest.co.nz (and published in the Sunday Star Times) shows the average household with 2 kids and a NZ$170,000 mortgage is now $38 a week worse off in the last four years because higher food, petrol and mortgage costs have overwhelmed wage increases and Working for Family tax breaks over that period.

Food, petrol and mortgage costs are up $140 a week for the average family who now spends $164 a week on food and NZ$66 a week on petrol. Food costs increased $22 a week and petrol (assuming the use of 35 litres a week) increased $26 a week, but the biggest pain came from higher mortgage costs as interest rates rose to 9.7% from 6.9% four years ago. (more…)