Balloon goes up over food prices, building costs

By BRIAN FALLOW economics editor

Prices rose 0.6 per cent in the March quarter, with food and construction costs the main culprits.

The quarterly increase in the consumers price index (CPI) matched that of the two previous quarters and pushed the annual inflation rate to 2.6 per cent.

The figure was below market expectations (the median forecast was 0.7 per cent) and below the 0.9 per cent the Reserve Bank forecast last month.

That should mean, said Stephen Toplis, the Bank of New Zealand's head of market economics, that the Reserve Bank would be comfortable with raising the official cash rate 25 basis points to 5.25 per cent today, rather than the 50 points the market had begun to price in.

"Nonetheless, inflation remains well above the bank's target mid-point and sufficiently close to the top end [3 per cent] to cause a few jitters," Toplis said.

Higher food prices explained more than a third of the quarter's increase. Fruit and vegetable growers had to contend with unseasonably wet weather.

Food prices have been increasing faster than overall inflation for the past year - 5.3 per cent in all.

Construction costs rose 1.4 per cent in the quarter (the steepest increase for 4 1/2 years), accounting for about a quarter of the CPI rise.

Deutsche Bank chief economist Ulf Schoefisch said the rise would reinforce the Reserve Bank's concern about an overheating housing market. "The momentum in that sector is continuing and we can expect a similar increase in the housing component in the June quarter."

Housing-related costs make up 23 per cent of the CPI. It does not include house or section prices, but it does reflect rents, construction costs, maintenance materials, rates and insurance.

The Real Estate Institute reported that house sales in February were 42 per cent higher than in February last year. The number of building consents has been increasing since the start of last year, and confidence in the housing market, as measured by the ASB Bank's quarterly survey, remains high.

Other contributors to the CPI rise included tobacco, which rose 2.1 per cent as the annual increase in the excise bit. Used-car prices were up 2.3 per cent, continuing a two-year upwards trend.

Electricity prices rose 2.8 per cent, the steepest quarterly increase since June 1999.

Petrol rose 0.3 per cent, as recent rises offset falls earlier in the quarter, Statistics New Zealand said. The latest round of petrol price increases, including the excise increase, would push up the June quarter's inflation numbers, Schoefisch said, as would a rebound in international airfares, whose seasonal 8 per cent drop was the largest downward influence on the March CPI.

Price rises were less widespread in the March quarter: 55 per cent of the 725 items in the CPI basket rose, compared with 63 per cent in the December quarter, and 27 per cent fell, compared with 24 per cent in the previous quarter. But the rises included a higher proportion of more expensive items.

Analysts think the March figures are unlikely to have changed the Reserve Bank's reading of underlying inflation pressure.

Most expect the bank to raise the official cash rate by 25 points today and are divided on whether the next move, on May 15, will be another 25 points or 50 points.

Indicators since the Reserve Bank began the tightening cycle a month ago have borne out its view that stimulatory interest rates are no longer warranted:

* Business confidence rebounded in the March quarter. Capacity utilisation is the highest for more than two years, but that is not matched by strong investment intentions - a menacing combination from the Reserve Bank's point of view.

* December gross domestic product data recorded strong growth in domestic demand.

* Consensus forecasts of growth among New Zealand's trading partners have continued to strengthen.

* Retail sales in February were up 1.8 per cent on January and a whopping 9.9 per cent on February last year.

* Hotels, motels and backpackers' hostels had their highest occupancy (for a February) since that survey began in 1996.

Toplis expects inflation to remain in the 2.5 to 3 per cent range well into next year, with a very real chance of going outside the target band.

Over the past five years, the period since the target band was widened to 0 to 3 per cent, the bank has been above the mid-point in 10 quarters, below it in nine quarters and bang on it once. It has been above 3 per cent for three quarters and below zero for three quarters.