The Cost-of-living Crisis Is Coming To An End, With Inflation Back Within The RBNZ’s Target Band

• Pay rises are running above inflation. The cost-of-living crisis is coming to an end, slowly. It may not feel like it, yet, but inflation has eased, and will ease further.
• The RBNZ engineered a long, harsh recession to get inflation back to 2%. And we're close... very close. At 2.2%, inflation has fallen from a rapid peak of 7.3%.
• The RBNZ can declare victory in the war on inflation.
• There is more disinflationary pressure in the pipeline as the economy continues to operate below its productive capacity. Tradables is the reason we have returned to 2%. And the eventual normalisation in domestic price pressures is why we see 2% sustained in the medium-term. It’s the two phases of 2%. Phase 1, imported. Phase 2, domestic.
• The light at the end of the tunnel is burning brighter. Cost pressures are easing. Great news for businesses and households, and interest rate relief is coming thick and fast. Policy settings are still restrictive, but more interest rate cuts are coming. We expect another 50bp cut in Nov. Falling inflation, and falling interest rates will help household budgets, and business opex.

The good news - deflationary pressures are becoming more broad based. There were more goods and services recording declines in prices. And there were fewer goods and services recording hikes in prices.

The bad news - there's still some very chunky prices hikes in council rates and insurance premiums to pay. The $5 fee for prescriptions also hurt.

The expected news – the inflation beast is back in its box. Earlier this year, we had forecast inflation falling back within the RBNZ’s 1-3% target band in the September quarter – that’s happened. But our initial forecast was for 2.8%, not 2.2%, given the persistent strength in domestic inflation. So not only has inflation been put back in its box, it’s a lot closer to 2%. And we still have more deflationary pressure in the pipeline. It’s good news.

The risk in the near-term is inflation undershooting 2%. The RBNZ has begun relaxing interest rate settings. But a cash rate of 4.75% is still restrictive. If domestic inflation normalises faster than expected, then we will likely see inflation falling into the lower-end of the RBNZ’s target band. And that opens the door to further large reductions in the cash rate.

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