Australia | Jan 27 2009
By Chris Shaw
Australia’s December quarter Producer Price Index (PPI) recorded an increase of 1.3% for the period, an outcome well above the consensus market forecast of an increase of just 0.4% driven largely by the sharp decline in the value of the Australian dollar.
This puts the yearly PPI measure at 6.4%, up from 5.6%, which is its highest level in the 10-year history of the figure.
While that would on face value appear to suggest some upward pressure on inflation via the Consumer Price Index (CPI), which is due for release tomorrow, the opposite should actually be the case, explains TD Securities senior strategist Joshua Williamson as the items that map across to the CPI actually fell during the period.
As Williamson points out, housing construction costs rose by just 0.3% in the period and manufactured output prices fell by 2.3%, so while TD Securities now sees some risk to its forecast of a 0.6% fall in the CPI tomorrow, the outcome should still be a decline greater than current market consensus.
As an example of this, ANZ Bank is forecasting a 0.2% fall in the CPI tomorrow on the back of lower fuel prices, which is well below Williamson’s minus 0.6% estimate. The good news from the PPI in ANZ Bank economist Riki Polygenis’s view, is Australia’s inflationary pressures should continue to fade as economic growth falls and global inflationary pressures also ease.
Economists at Westpac agree, pointing out the weakness of demand in the Australian economy at present suggests the high PPI outcome is unlikely to flow through into the CPI number. The bank has revised its CPI estimate lower as a result and it now expects a decline of 0.5% for the quarter, down from an expected 0.4% fall previously.
Commonwealth Bank senior economist Michael Workman makes a similar argument, suggesting that even as domestic prices are rising strongly and there is now some upside risk to tomorrow’s CPI number, the fact margins are being squeezed at present thanks to weak demand means it will be difficult for price rises to be passed on.
This means interest rates are likely to continue to come down, with Workman forecasting a cash rate of 3.25% in the first quarter of this year. Polygenis suggests a 0.75% cut at the Reserve Bank of Australia meeting next month is now fully priced into the market.
With economic data continuing to weaken, Polygenis suggests the debate in the market is now turning to whether such a cut would be enough or is a reduction in the cash rate of 1.0% neccessary or likely.
This debate will continue after the release of tomorrow’s CPI data.