CPI inflation expected to fall to the extent the Reserve Bank doesn’t need to hike the OCR again

Economists are hopeful data released on Wednesday will show inflation fell by more than expected by the Reserve Bank (RBNZ) in the final three months of 2023.

While domestically driven inflation is due to remain sticky, a drop in imported inflation is expected to bring down the headline figure and prevent the RBNZ from needing to hike the Official Cash Rate (OCR) again.

Bank economists expect the consumers price index (CPI) rose by about 0.6 per cent between the September and December quarters, and by about 4.7 per cent between the December 2022 and December 2023 quarters.

These readings would be below the 0.8 per cent quarterly increase and 5 per cent annual rise forecast by the RBNZ in November, when it pencilled in another OCR hike for 2024 and suggested it wouldn’t cut the rate until 2025.

However, economists believe Wednesday’s figures will go some way to soothing the RBNZ’s impatience over inflation running too hot since mid-2021.

The RBNZ is tasked with ensuring the CPI rises by between 1 and 3 per cent a year. In the September quarter, the annual rate sat at 5.6 per cent.

“It’s still a long way back to target,” Kiwibank senior economist Mary Jo Vergara said.

She believed softening food and petrol prices would’ve helped the inflation rate track down in the December quarter.

“Adverse weather conditions early in 2023 resulted in double digit increases in prices for food, especially fresh produce. But prices appear to be normalising,” she said.

“Petrol prices are estimated to have increased just 0.3 per cent.”

Vergara believed imported, or tradeable inflation, which the RBNZ can’t influence by setting interest rates, would have fallen to an annual rate of 3.5 per cent.

While this would be encouraging, she noted the improvement could be easily disrupted.

“Attacks on ships in the Red Sea are causing shipping rates to spike, and delivery times to lengthen,” she said.

“According to Veson Nautical, it takes an extra nine days at sea to avoid using the Red Sea and Suez Canal, and chugging around Africa.”

The Shanghai Shipping Containerised Freight Index, which reports on 15 routes of out Shanghai, has also more than doubled since December.

Vergara said higher freight costs were unlikely to push prices up by as much as they did during the Covid crisis, but any spike was of course unwelcome.

Reserve Bank Governor Adrian Orr during his monetary policy statement press conference in November. Photo / Mark Mitchell

Now to domestically driven inflation, which the RBNZ has more influence over - this is where economists see problems persisting.

While record high immigration is plugging skill shortages and supporting the supply side of the economy, it’s also adding to demand.

In other words, while high interest rates are causing Kiwis to cut back their spending, the overall amount being spent in the economy is being propped up by the fact the population is growing.

This is putting upward pressure on rents (which rose by 1 per cent in the December quarter), among other goods and services.

Nonetheless, building costs have softened a lot, having risen by a whopping 18 per cent in 2021.

Vergara said economists, including at the RBNZ, would strip out volatile parts of the basket of goods that makes up the CPI to understand the underlying trend.

She noted that headline CPI is not seasonally adjusted - “and seasonality is especially distortionary over the December quarter”.

“Food prices are softer than usual, and airfares typically spike over the holiday period. Core measures of inflation strip out these volatile price movements…

“And, while slow, core inflation has been moving in the right direction. Over the September quarter, core inflation fell from 6.1 per cent to 5.2 per cent. We should see the same downtrend continue.”

Taking a step back, BNZ’s head of research Stephen Toplis raised his concerns around the emphasis put on the distinction between tradeable and non-tradeable inflation in New Zealand.

He noted the lines are often blurred, as the prices of tradables (like petrol) often affect non-tradables.

Toplis also noted how a significant portion of non-tradeable prices are unrelated to the domestic demand conditions the RBNZ can influence by setting the OCR.

For example, the RBNZ has limited control over rates, which are soaring as councils scramble to fix neglected infrastructure, while responding to more frequent adverse weather events.

Similarly, the RBNZ can’t do much about insurers putting up premiums in the wake of Cyclone Gabrielle.

“Here’s an interesting stat for you,” Toplis said.

“Since the beginning of the century non-tradables inflation has averaged 3.4 per cent while tradables has averaged just 1.4 per cent. Surely there must be some acceptance that non-tradables will tend to remain stickily high?

“We are not arguing that the RBNZ should ignore the price pressures from this sector, nor are we suggesting it should be comfortable with inflation at current lofty levels, but we do believe it should focus less on non-tradables.”

Jenée Tibshraeny is the Herald’s Wellington business editor, based in the Parliamentary press gallery. She specialises in government and Reserve Bank policymaking, economics and banking.