Economists confident of rate cut amid weak inflation data

An interest rate cut looks all but certain following a weak inflation reading, with economists expecting the Reserve Bank to ease rates by 25 basis points when it meets next week.

The latest Consumer Price Index, from the Australian Bureau of Statistics, shows prices rose just 0.1% in the three months to March, falling well short of expectations.

Australia’s annual inflation rate fell sharply to 1.6%, down from 3.1% 12 months ago and well below the RBA’s target range of 2-3%.

The largest price rises were for pharmaceuticals, education and petrol, while prices fell most sharply for fruit, computers, audio visual equipment and furniture.

Meanwhile, underlying inflation – which is the RBA’s preferred measure as it excludes the most volatile price movements – rose 0.3% in the quarter for an annual rate of 2.2%.

At its board meeting earlier this month, the RBA indicated it would ease the cash rate if the inflation figures were weak.

“In underlying terms, inflation was around 2.5% in 2011. CPI inflation was higher than that but will fall over the next quarter or two,” RBA Governor Glenn Stevens said in a statement.

“It is currently expected that inflation will be in the 2-3% range over the coming one to two years.”

“At its next meeting, the board will… reassess the outlook for inflation, taking into account not only data on demand and output but also forthcoming information on prices.”

Westpac chief economist Bill Evans says he expects the RBA to ease rates by 25 basis points when it meets next week, saying it has held off for long enough.

“Clearly the inflation story, which of course is their number one policy target, is now saying that rates are too high,” Evans says.

“Their core number is only 2.15 now – it’s at the bottom of the band – so we will see a rate cut next week.”

Similarly, Commonwealth Bank chief economist Michael Blythe says the weak inflation figure will allow the RBA to cut the cash rate from its current level of 4.25%.

“A rate cut looks like a very high probability given the RBA itself put on these numbers… Certainly on these numbers there is plenty of scope,” Blythe says.

According to Blythe, the lower than expected figure will also add to expectations the RBA could cut the cash rate more than once over coming months.

“Markets have already moved to price in another cut,” he says.

Federal Treasurer Wayne Swan used the result to defend his pursuit of a budget surplus, saying it will give the RBA “maximum flexibility” as it makes its monetary policy decisions.

“There’s no doubt that solid growth, low unemployment and contained inflation is a very, very healthy combination,” Swan said.

“With growth returning to trend, it is appropriate to return the budget to surplus.”