With the latest quarterly inflation data surprising on the upside, the RBA raised interest rates on Melbourne Cup Day “Without a fight”. Prior to the September quarterly inflation data, the market believed that another interest rate increase was unlikely, now with this rate rise out of the way, the market has returned to that thinking. However, this is all based on the assumption that inflation has been tamed. What if the September result was the harbinger of an inflation breakout? I still think that it ultimately comes down to unemployment needing to increase.
What the RBA said
“The latest reading on CPI inflation indicates that while goods price inflation has eased further, the prices of many services are continuing to rise briskly. While the central forecast is for CPI inflation to continue to decline, progress looks to be slower than earlier expected.”
“Since its August meeting, the Board has received updated information on inflation, the labour market, economic activity and the revised set of forecasts. The weight of this information suggests that the risk of inflation remaining higher for longer has increased.”
“Services price inflation has been surprisingly persistent overseas and the same could occur in Australia.”
“Whether further tightening of monetary policy is required to ensure that inflation returns to target in a reasonable timeframe will depend upon the data and the evolving assessment of risks.”
Statement by Michele Bullock, Governor: Monetary Policy Decision, 7 November 2023.
We were all watching to see when inflation would peak and when it did peak in December and continued to fall through the first-half of the year, we believed that inflation had largely been tamed.
However, the rise in automotive-fuel costs and the rise in the monthly inflation indicator in August were warning signs. Lo and behold, inflation increased from 0.8% in the June quarter to 1.2% in the September quarter, on a quarterly basis (see chart below). This was the first quarterly increase in inflation since December 2022.
While quarterly inflation continues to decrease on an annual basis, from 6% to 5.2%. The monthly CPI indicator for September showed a second consecutive increase on an annual basis. Inflation is starting to rear its head again and that is why the RBA acted and why we will all be looking at inflation closely again going forward.
Looking at the details of the September result, the areas of largest increase on a quarterly basis were transport (3.2%) and housing (2.2%) (see chart below).
For transport read “fuel prices” and for housing read “rents”. Rental prices increased 7.6% on an annual basis in September which is the largest increase since 2009 (see chart below).
Both fuel costs and rents are likely to remain high for the near future given current geopolitical tensions and the lack of housing supply in Australia.
Rents will likely step down a little in October because of a 15% increase in the maximum rate for Commonwealth Rent Assistance (CRA) starting 20 September but it will maintain its high trajectory. CRA is available to those receiving Centrelink payments who rent in the private market.
Household spending is up again
Adding to the RBA concerns over inflation and also corroborating the increases, household spending increased by 3.1 percent on a monthly basis in September with the index clearly tracking back up (see the blue line in the chart below).
While spending on goods remains subdued on an annual basis, down -0.1%, spending on services remains high at 9.6%. With service inflation proving stickier than goods inflation, both here and abroad, this must remain a concern for the RBA.
Reinforcing the concern over household spending, retail turnover increased 0.9% in September and was revised up for July (0.6%) and August (0.3%).
Unemployment decreased from 3.7% to 3.6% in September (seasonally adjusted). If consumer spending remains robust then it may take increasing unemployment for inflation to be truly tamed.
Impact on the Australian Private Debt Market
The increase in the interest rate combined with a still solid Australian economy remains a win-win for investors in Australian private debt. The recent increase in bond volatility also makes private debt more attractive as an alternative to bonds in portfolios.