Inflation up 0.3% in June quarter, increases 1.8% in June year

The consumers price index (CPI) rose 0.3 percent for the June quarter and 1.8% in the year to June, Statistics New Zealand said today.

Both figures are slightly lower than the consensus of economists' expectations of 0.4% and 1.9% and the Reserve Bank's 0.5% and 2% expectations. The Reserve Bank is tasked with keeping inflation between 1% and 3% on average over the medium term and is due to make its next decision on the Official Cash Rate on July 29.

(Update includes comments from ASB economist Christina Leung on domestic inflation pressures being elevated,  JP Morgan's Helen Kevans that she expects the RBNZ to keep hiking the OCR to 3.75% by the end of the year, ANZ economists seeing another OCR hike on July 29 but a pause in the December quarter, BNZ saying inflation remains a concern and Westpac expecting further rate hikes.)

Statistics NZ's prices manager Chris Pike said higher tobacco, transport, and housing prices in the June quarter were partly offset by lower food prices.

Cigarette and tobacco prices rose 8.7%, lifted by excise duty increases on cigarettes and tobacco. Retail prices for cigarettes rose between 8% and 10%, and tobacco prices about 20%.

"With these increases occurring at the end of April, two-thirds of the impact was shown in the June 2010 quarter CPI."

Food prices, meanwhile,  fell 0.9% reflecting lower prices for meat, poultry, and fish - down 3.3% - and fruit and vegetables -down 2.6%.

Pike said transport related prices rose 0.9% in the June quarter because of higher petrol prices, up 1.4%, and increased second-hand car prices, which rose 2.4%.

Housing and household utilities prices increased 0.5%, with higher renting prices, up 0.5%, and electricity prices up 1%.

The CPI increased 1.8% for the year to the June quarter. Transport, up 6.6%, comprised half this increase due to a 9.5% rise in petrol prices, a 16.1% rise in international air fares and a 7.7% rise in the price of second hand cars. Food prices fell 0.7%.

Non-tradable goods and services, which don't face foreign competition, rose 2.2% for the year to the June 2010 quarter. Tradables, which are exported, imported, or compete with imported goods, rose 1.1% in the year to the June quarter.

The CPI measures the rate of price change of goods and services purchased by households. Statistics NZ visits 3,000 shops around New Zealand to collect prices for the CPI and check product sizes and features.

Domestic inflation pressures

ASB economist Christina Leung said the figures showed inflation was well behaved in the second quarter. That said, a continued recovery in non-tradable inflation indicated growing underlying inflation pressure as economic activity recovers.

"Looking forward, the implementation of the Emissions Trading Scheme on 1st July saw an increase in energy and fuel prices, while the increase in ACC levies means that the increase in car registration fees will be higher than is typical for the third quarter. Combined with the GST increase in October, we expect annual headline inflation will rise to well over 5% by mid-2011," Leung said.

"The key challenge for the Reserve Bank will be in preventing the high headline inflation spilling over to changes in price and wage setting behaviour.  And although the headline inflation rate was low relative to the RBNZ’s expectations, we estimate that the Reserve Bank forecast quarterly non-tradable inflation of 0.5% - 0.6% i.e. very near the 0.6% outcome." 

She said the Reserve Bank was likely to continue steadily removing monetary policy stimulus over the next  year to keep inflation pressures in check.

OCR hikes to come

JP Morgan economist Helen Kevans said headline inflation was expected to rise in the second half of this year as the effects of the Emissions Trading Scheme, the GST increase and rises in ACC levies hit the economy.

"As a result, we forecast headline inflation at an elevated 4.6% in 4Q, but the risks are skewed to a much higher print if inflation expectations do not remain anchored. Indeed, these two policy changes should have only a one-off impact on prices, but given that they are coming into effect within months of each other, the real risk is that inflation expectations rise," Kevans said.

"The medium-term inflation outlook, particularly the expected rise in underlying inflation, reaffirms our view that the RBNZ will need to tighten monetary policy further. We expect that Governor Bollard will hike the cash rate four more times this year, provided that economic and financial market developments evolve as expected. We forecast an OCR of 3.75% by year-end," she said.

But then a pause?

ANZ economists said the inflation outlook had softened slight, but they still expected another hike in the Official Cash Rate on July 29. However, a pause in rate hikes was now expected in the December quarter, they said.

"The subdued CPI print today will be the last for a while, as various government related policy changes are set to lead to large increases in the CPI over the coming quarters," they said.

"Nonetheless, the starting point is better than what the RBNZ was expecting. We still see another 25bp hike at the end of this month, but today’s CPI outturn, alongside recent domestic data, suggest some waning in growth momentum, and reinforces our view that the RBNZ will pause in Q4."

Inflation 'still a worry'

BNZ economist Doug Steel said it would be a mistake for the Reserve Bank to relax on the inflationary outlook.

"If annual inflation only gets down to 1.8% a year after the end of such a harsh economic downturn what will it get to when the upturn starts putting the pressure back on?," Steel asked.

"That threat is enough to suggest why the RBNZ should probably continue to remove monetary stimulus We think it likely the RBNZ will continue removing monetary stimulus over coming meetings. This seems to be the view of the market also, judging by the very mild rally in short end wholesale interest rates following the CPI release," he said.

"Even if the recovery is a bit patchy in places, and a bit slower than one would hope, it is still progressing at a pace close to or above potential. This, if it continues, will generate inflation over the medium term if left unchecked. As such we need to be wary of the recent warning signs of inflation over the medium term like slowing potential growth, tightening capacity indicators and firms’ rising pricing intentions."

'Stick to the plan'

Westpac's economists also expect the Reserve Bank to keep lifting the Official Cash Rate.

"The RBNZ could well be less strident in its rhetoric at the July OCR review than it was in June. But while they'll certainly acknowledge the weaker flow of data, we don't expect any knee-jerk reaction. It would be utterly inappropriate to keep the OCR at 2.75%, given the inflation outlook. That's why the RBNZ has articulated such a clear plan to return the OCR to a more normal level," they said.

"There is every reason to expect the RBNZ will stick to that plan."