Readers may wonder why there is so much discussion about raising the rate of inflation back to the RBA’s target band of 2% to 3%. Readers may even wonder why the RBA has a target band in the first place. Whereas consumers generally don’t like inflation, except in their own salaries and wages, the RBA and central banks in general want a modest amount of inflation for various policy reasons.
The latest Inflation Gauge reading for May shows consumer prices fell 0.2%. Fruit, vegetables, holiday travel and accommodation fell. These items were offset by prices rises from fuel, insurance and financial services. 12 month inflation (blue line below) fell for a fourth month in a row, from 1.5% to 1.0%. The trimmed mean measure of the Inflation Gauge fell by 0.2 per cent in May (+0.2% in April).
The Melbourne Institute’s Inflation Gauge has a high correlation to the official ABS CPI data; a quick look at the chart illustrates this relationship. The advantage it has over the official data is it is released monthly and therefore it gives financial markets a good clue as to where CPI figures are heading. Markets can then speculate on the likelihood of the RBA raising or lowering rates as they know a rate cut is more likely when inflation is falling and a rate rise is more likely when inflation is rising.
According to the Melbourne Institute’s Dr. Sam Tsiaplias, however inflation is measured, it is lower than the RBA’s target. “Looking at either the headline or trimmed mean measures, annual inflation appears to have fallen to about 1%. Inflation excluding volatile items has also fallen to 1.5%…Whichever measure happens to be preferred, it is fairly clear that there is a sizeable gap between target and actual inflation.”