Inflation set to slow sharply

The 6.9% annual rise in Australia’s trimmed mean CPI in Q4 was stronger than the RBA’s November forecast and has prompted some hawkish rhetoric from the Bank at its February meeting. Indeed, we now expect the cash rate to peak at 4.10% in May instead of our previous forecast of 3.85%. However, we still see a good chance that rates will be cut again before the end of the year. After all, business surveys point to a marked moderation in inflation over the coming months. (See Chart 1.) Indeed, most of the key drivers of the recent strength in inflation are set to unwind: The RBA’s rural commodity price index was lower in January than a year ago which suggests that the recent strength in food inflation won’t be sustained. New dwellings inflation has already slowed sharply in q/q terms and with housing demand going from bad to worse, that has much further to run. And with the labour market set to loosen again, wage growth probably won’t become unsustainably high.