Q1 CPI – not low enough for a May cut

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With Q1’13 CPI much lower than anticapited the obvious question is if the RBA will respond by cutting rates in May.

It it hard to say for sure, but i think the chance of a cut in May is no better than 25%. For, while weak inflation does suggest that demand is running a little behind supply, some of the details suggests that the current weak inflation pulse is possibly about some odd things that are going on.

In particular, large drop in clothing — -3.9%q/q — seems to have been due to warm weather late in Q1, which led to heavy discounting of autumn stock by retailers. This and the -0.8%q/q drop in food prices seem unlikely to reflect movements on the demand side of the economy.

This is the reason we saw a large drop in tradable CPI (-1.2%q/q). On the other hand, it’s hard to dismiss the 1.3%q/q increase in non-tradable CPI (as i have done in the past, as it’s mostly been tax-like regulated price increases). These numbers are not seasonally adjusted, however a rough analysis suggests that non-tradable CPI was ~1%q/q.

With non-tradable CPI ~1%q/q and house prices rising at ~5%y/y AR in Q1, it’s hard to make a case that domestic demand is weak and requires support.

Sure, the fact that CPI is lower than the RBA expected (they need ~0.75%q/q in Q2 to hit their 2.5%y/y projection for core CPI in June 13), means that the hurdle for a rate cut is lower — but i don’t think the case for a rate cut in May has been made.

If the demand blip in March (the NAB business survey and Jobs data were weak) is confirmed, the RBA will likely ease later — perhaps June, perhaps later — but i do not think the case has been made for May.

The market is currently pricing is ~10bps of cuts (a 40% chance) — up from ~7bps the prior day (a 28% chance).

I think that’s too much — but then i thought so yesterday before CPI…



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