Inflation weaker than expected so OCR seen on hold for longer

This Statistics NZ chart shows how petrol prices in Wellington and the South Island, where there are no Gull stations, have diverged from Auckland and the rest of the North Island.

Inflation was surprisingly weak in the June quarter, which means financial markets and economists now see the Reserve Bank as more likely to keep the Official Cash Rate on hold for longer.

Statistics New Zealand reported Consumer Price Index inflation fell to 0.0 percent in the June quarter from 1.0 percent in the March quarter as domestic airfares fell 15 percent and petrol prices fell 2.9 percent in Wellington and the South Island, and 1.7 percent in Auckland. Annual inflation fell to 1.7 percent from 2.2 percent in the March quarter.

The chart above shows the widening divergence (around seven percent) between Auckland and the upper North Island (where Gull stations are present) and the rest of the country (Wellington and South Island) over the last six years. However, petrol prices in the non-Gull regions fell more sharply in late June in the lead up to the release of a Government analysis of petrol prices, which found the petrol market in those regions may not be fully competitive.

Economists had expected quarterly inflation of around 0.2 percent and annual inflation of 2.0 percent so the result lowered expectations about an early start to rate hikes by the Reserve Bank. The central bank itself had forecast in May that there would be quarterly inflation of 0.3 percent and annual inflation of 2.1 percent. Before the release of the figures, economists had expected the Reserve Bank to begin hiking the OCR from its current 1.75 percent level in the second half of 2018, although the Reserve Bank itself forecast in May that it would not start increasing the official rate until the second half of 2019.

The Tradables index of the CPI fell 0.2 percent in the June quarter and was up just 0.9 percent from a year ago as fuel and other import costs were weak, in part due to a strong currency. The New Zealand dollar fell more than half a cent to 72.7 USc after the result, although it remains more than two percent higher on a Trade Weighted Index basis than the Reserve Bank's May forecast, effectively tightening monetary conditions.

Non-tradables prices, which are the domestically influenced prices most closely watched by the Reserve Bank, rose just 0.2 percent in the June quarter (the lowest quarterly inflation in two years) and down to 2.4 percent on an annual basis from 2.5 percent in the March quarter. This was also lower than the 0.3 percent and 0.5 percent rises expected for the quarter by economists and the Reserve Bank respectively.

Perhaps surprisingly during the Lions tour, accommodation prices fell 8.1 percent in the June quarter

"We continue to expect the RBNZ will not lift the OCR until late 2018 – certainly there is no hurry for the RBNZ to act any earlier based off the Q2 CPI," ASB's Chief Economist Nick Tuffley said.

Short term wholesale interest rates fell around three basis points.

"While the RBNZ has already been on the side of arguing that OCR hikes are a long way off, today’s result should put a severe dent in market expectations that the RBNZ will be hiking rates by mid-2018," said Westpac Acting Chief Economist Michael Gordon.