Statistics NZ reports CPI rose 0.3% in June qtr; Annual inflation up to 1.6%; in line with RBNZ forecast; just below market consensus

By Bernard Hickey

Consumer price inflation in the June quarter was weaker than expected as construction cost and services sector inflation was below expectations, creating some doubt about the 'sure thing' bet in financial markets that Reserve Bank will hike the Official Cash Rate for a fourth time in five months next Thursday.

Statistics New Zealand has reported that quarterly Consumer Price Index Inflation was unchanged at 0.3% in the June quarter from the March quarter, which meant annual inflation in the year to the June quarter edged up to 1.6% from 1.5% in the March quarter.

The result was in line with the Reserve Bank's forcast for a 0.3% increase in the quarter, but was just below the economists' consensus forecast for inflation of around 0.4%. Tradable inflation, which measures prices set or influenced on international markets, was 0.2% for the quarter and flat for the year. This was in line with expectations.

Non-tradable inflation, which measures prices in areas not competing with the rest of the world (housing, financial services, education, health and government), was 0.4% for the quarter and 2.7% for the year. This was below market and Reserve Bank expectations for 0.6% for the quarter and 2.9% for the year.

The New Zealand dollar dropped another half a cent to 87.3 USc, having earlier fallen about half a cent after dairy prices fell 8.9% overnight and the US Federal Reserve reiterated a dovish stance on interest rates.

Statistics New Zealand said higher housing costs, electricity costs and food costs more than offset reductions in package holiday prices, car prices and accommodation prices.

The 0.3% rise in the June quarter followed increases of 0.3% and 0.1% in the March and December quarters respectively.

“Higher housing-related prices and vegetable prices were partly countered by cheaper package holidays, cars, and fruit,” Statistics NZ's prices manager Chris Pike said.

Prices for housing and household utilities rose 1.2%, reflecting higher prices for electricity (up 4.2%), rentals for housing (up 0.6%), and buying newly built houses excluding land (up 1.2%).

Food prices rose 0.9%, influenced by higher prices for fruit and vegetables (up 4.9%). Vegetable prices rose 13% during the wintry June quarter, while fruit prices fell 4.9%.

Prices for recreation and culture (down 1.1%t) made the most significant downward contribution. Package holiday prices fell 6.5% accommodation prices fell 4.5% during the non-summer months of the June quarter. Vehicle prices fell 1.2% and second hand car prices fell 1.5% in the quarter.

The annual inflation increase of 1.6% followed annual rises of 1.5% and 1.6% in the March and December quarters respectively. It was also the 11th successive annual inflation result below the 2% mid-point of the Reserve Bank's 1-3% target band.

"The price of buying a newly built house without land increased 4.6% for the year. In Auckland the increase was 5.5% and in Canterbury it was 6.4%," Pike said.

Half of the latest annual increase came from housing and household utility prices, which increased 3.4%. In addition to newly built houses, housing rents rose 2.2%, electricity rose 4.5% for the year, property maintenance rose 4.5% and council rates rose 4.1%.

Cigarette and tobacco prices rose 10.2% due to higher taxes imposed in January, while petrol prices rose 2.8% for the year. Electronics prices fell 9.8% for the year, while car prices fell 2.9%.

"The strong New Zealand dollar has had a downward influence on the retail prices of internationally traded goods, including cars and appliances," Statistics NZ said.

This June quarter result was the 100th anniversary of the series, which started in the June quarter of 1914. 2014.

Reaction

Westpac Chief Economist Dominick Stephens said the 1.6% annual increase was below his own forecast of 1.8% and the Reserve Bank's forecast for 1.7%. The details were also weaker than the headline, with few signs of accelerating housing-related inflation, he said.

"The overall picture of inflation is a little more modest than the RBNZ might have feared," Stephens said.

"In combination with the 9% decline in dairy auction prices overnight, today's data is material for the interest rate outlook," he said, adding markets had previously priced in a rate hike on July 24 as a "done deal."

"However, after today's data double-whammy, we think markets should pause for thought - a July OCR hike may not be quite such a sure thing as previously thought."

Pausing right through 2015?

BNZ's Head of Research Stephen Toplis said the relative weakness in non-tradable inflation would have caught the Reserve Bank's attention, being just 0.4% when the central bank had forecast 0.7%.

Toplis said he still thought inflation would eventually become problematic, but given today's figures and the continued strength in the New Zealand dollar, BNZ had reduced its CPI forecast for the Septembr quarter to 0.7%, giving another annual reading of 1.6%.

"Moreover, we do not expect the CPI to become problematic for the Reserve Bank until late 2015/early 2016. Inflation may remain muted, but we still think the RBNZ will need to push rates higher again when it announces its July OCR review on the 24th," he said.

However, Toplis said a December resumption to the rate hike cycle was now "very much open to debate."

"And, unless domestic demand surprises on the upside, dairy prices push higher and/or the currency falls sharply, it is quite possible that the Bank may then hold tight through into 2015," he said.

AMP NZ Chief Economist Bevan Graham said he still thought the Reserve Bank would hike again next Thursday before pausing.

"That said, the cause for a pause in the tightening cycle just increased.  We have said all along that it was particularly the trajectory of the exchange rate that would determine both the phasing and the ultimate peak in the tightening cycle.  That’s still the case. The reality is the combination of dairy prices falling more than expected, continued strength in the exchange rate and continued interest rate increases just don’t add up," Graham said here.

ANZ Senior Economist Mark Smith said a softer than expected 0.4% rise in non-tradable prices for the quarter was the main surprise, "with few signs of domestic inflationary pressure outside of housing."

"Despite limited signs of increasing capacity pressures flowing through to the retail price level and the elevated NZD, increasing pressures on capacity still warrants some further removal of interest rate stimulus, with a July hike next week still odds-on," Smith said, adding ANZ expected the central bank to pause until at least the end of the year.

"On a more encouraging note for the RBNZ, there were only mixed signs that increasing pressures on capacity were flowing through into generalised price increases, with contained readings for the core inflation measures," he said.

"The benign wage backdrop looks to have been influential, with services prices unchanged over the quarter. The distributional price measures provided few warning signs, with only 46.8% of surveyed prices rising in Q2, the lowest since December 2012. With little evidence of higher construction costs filtering through into wider pricing pressure, the RBNZ will also be encouraged by signs of a geographically broad-based moderation in annual construction cost inflation (4.6% nationwide and in a 4.2-6.4% regional range)."

'NZ$ headache'

Smith said the high New Zealand dollar and retail competition continued to exert downward pressure on retail prices, with 16% of retail outlets reporting price falls in the quarter, up from 15% in the same quarter a year and despite business surveys finding rising intentions to lift prices.

"With the NZD remaining elevated despite falls to commodity export prices, the dampening impact of the currency on inflation will remain a feature of the landscape for some time to come, and is becoming an increasingly painful headache for the RBNZ," he said.

ASB Economist Christina Leung said the weaker than expected result was due to lower than forecast inflation in insurance, credit services and recreational services.

"There are no fresh OCR implications from today’s result – we continue to expect the RBNZ will raise the OCR next Thursday, before pausing until December this year. Over 2015, we expect three further OCR increases for an OCR peak of 4.5% by the second half of next year," Leung said.

"The dampening effect on tradable inflation is likely to lessen over 2015 and 2016 as the NZD starts to ease, and stronger household demand allows retailers to recoup some operating margin. Along with the continued pick-up in non-tradable inflation, we expect annual headline inflation will peak at 2.4% around the middle of 2016 before easing back towards 2% as capacity pressures in the NZ economy reduce and the effects of higher interest rates take hold," she said.

(Updated with more details, market reaction, economist reaction, corrected 2014 date to 1914)