Tue Jul 25 20:30:00 CDT 2017

Consensus Actual Previous
Quarter over Quarter 0.5% 0.2% 0.5%
Year over Year 2.3% 1.9% 2.1%
Trimmed mean - Q/Q 0.5% 0.5% 0.5%
Weighted Median - Q/Q 0.5% 0.5% 0.4%
Trimmed mean - Y/Y 1.8% 1.9%
Weighted Median - Y/Y 1.8% 1.7%

Headline CPI inflation in Australia slowed to 1.9 percent in the three months to June, down from 2.1 percent in the three months to March and below the consensus forecast of 2.3 percent. This takes inflation back below the Reserve Bank of Australia's target range of 2.0 percent to 3.0 percent after moving back within that target range last quarter for the first time since mid-2014. Headline CPI rose 0.2 percent on the quarter, below the consensus forecast of 0.5 percent and down from 0.5 percent in the three months to March.

The drop in headline inflation in the three months to June reflects weaker year-on-year growth in transport costs, up just 2.1 percent on the year in the three months to June after increasing by 3.8 percent in the three months to March. Prices of clothing and footwear fell 1.9 percent on the year after increasing by 0.3 percent in the previous quarter. This was partly offset by a smaller decline in communication costs on the year. The year-on-year growth rates of prices for most other major categories of consumer spending were little changed.

Measures of core inflation, which exclude the impact of volatile price changes, were broadly steady last quarter. The trimmed mean CPI inflation measure eased from 1.9 percent in the three months to March to 1.8 percent in the three months to June, while the weighted mean CPI inflation measure ticked higher from 1.7 percent to 1.8 percent. Both measures rose 0.5 percent on the quarter.

Despite the small decline in headline inflation last quarter, today's data remain consistent with the RBA's assessment that inflation will likely "increase gradually as the economy strengthens". Officials' most recent economic outlook, published in May, forecast headline inflation at 2.0 percent and underlying inflation at 1.75 percent for the year ended June 2017, with both measures forecast at between 1.5 percent and 2.5 percent for the year ended June 2018 and between 2.0 percent and 3.0 percent for the year ended June 2019.

Although there has been little change in recent RBA comments about the inflation outlook, the minutes of the last policy meeting, published last week, contained details of a discussion about the current level of policy settings. Officials noted that policy has been "clearly expansionary" in recent years, suggesting that the policy rate would need to increase if and when officials decide that a more neutral policy stance is warranted. This has prompted speculation that a rate hike may be considered if inflation were to surprise to the upside, but this speculation may subside in response to today's data.

Speaking a short time after the release of today's data, RBA Governor Philip Lowe argued that ongoing spare capacity in the domestic labour market suggested that Australia was unlikely to face a sharp acceleration in wage and price pressures requiring higher policy rates. However, he also noted that steady growth in employment had allowed officials to be patient about meeting their inflation target, reducing any urgency to lower policy rates. In addition, Governor Lowe stressed that the RBA would not necessarily need to follow the lead of other central banks as they withdraw monetary stimulus. These comments suggest that the RBA remains satisfied for now with current policy settings.

The Consumer Price Index (CPI) is a measure of the average change over time in the prices paid by households for a fixed basket of goods and services. The data are released quarterly. In Australia, the CPI measures the changes in the price of a fixed basket of goods and services, acquired by household consumers who are residents in the eight State/Territory capital cities. (Darwin, Perth, Sydney, Melbourne, Hobart, Brisbane, Canberra and Adelaide)

The consumer price index is the most widely followed indicator of inflation. An investor who understands how inflation influences the markets will benefit over those investors that do not understand the impact. In countries such as the Australia, where monetary policy decisions rest on the central bank's inflation target, the rate of inflation directly affects all interest rates charged to business and the consumer.

Inflation is an increase in the overall prices of goods and services. The relationship between inflation and interest rates is the key to understanding how indicators such as the CPI influence the markets - and your investments. Inflation (along with various risks) basically explains how interest rates are set on everything from your mortgage and auto loans to Treasury bills, notes and bonds. As the rate of inflation changes and as expectations on inflation change, the markets adjust interest rates. The effect ripples across stocks, bonds, commodities, and your portfolio, often in a dramatic fashion.

By tracking inflation, whether high or low, rising or falling, investors can anticipate how different types of investments will perform. Over the long run, the bond market will rally (fall) when increases in the CPI are small (large). The equity market rallies with the bond market because low inflation promises low interest rates and is good for profits.

Unlike most other countries, Australia calculates its CPI on a quarterly basis. For monetary policy, the Reserve Bank of Australia generally follows the annual change in the consumer price index. It has an inflation target of 2 percent to 3 percent. The RBA also has two preferred core or analytical measures - the weighted and trimmed means. The trimmed mean is a method of averaging that removes a small percentage of the largest and smallest values before calculating the mean. After removing the specified observations, the trimmed mean is found using an arithmetic averaging formula. The weighted mean excludes certain items from the CPI basket (the exclusion approach). Typically, the excluded items are those that are volatile and/or display pronounced seasonal patterns, and those that are subject to administrative price setting.

Currency traders prefer healthy growth and higher interest rates. Both lead to increased demand for a local currency. However, inflationary pressures put pressure on a currency regardless of growth. For example, if the Australian Bureau of Statistics reports that the consumer price index has risen more than the RBA's 2 percent to 3 percent inflation target, demand for the Australian dollar could decline. Similarly, when the RBA lowers interest rates, the currency weakens. (Currency traders also watch the interest rate spread between countries.)