<p>Bottega House has completed settlement of a landmark riverfront site in Macquarie Street, St Lucia, representing its first major Brisbane development.&nbsp;</p>

<p>Positioned on the banks of the Brisbane River, the <a href="https://www.apartments.com.au/new-apartments/180-macquarie-street-st-lucia-qld-4067">premium site at 180 Macquarie Street</a> features uninterrupted river frontage in one of Brisbane’s most tightly held residential precincts.&nbsp;</p>

<p>The proposed development, currently under assessment with Brisbane City Council, has been designed by <a href="https://www.apartments.com.au/architects/plus-studio">Plus Studio</a> with interiors by <a href="https://www.apartments.com.au/interior-designers/mim-design">Mim Design</a> and will deliver a boutique collection of premium residences positioned specifically for owner occupiers and downsizers.&nbsp;</p>

<p>The residences are set to redefine luxury apartment living in the area, with a focus on architectural quality, refined finishes, landscape integration and elevated amenities including curated wellness facilities, resort-style pools and recreation spaces rarely seen in the local market.&nbsp;</p>

<p>Exclusive sales for the project will be led by Keenan &amp; Byrne, ahead of an anticipated launch later this year.&nbsp;</p>

<p>Bottega House Managing Director Nick Malloch said the project reflects the group’s ambition to deliver a highly curated residential offering within one of Brisbane’s most tightly held precincts.&nbsp;</p>

<p>“This is an incredibly rare riverfront opportunity and one we have approached with a long-term perspective,” Malloch said.&nbsp;</p>

<p>“Our vision from the outset was to create a boutique collection of residences that feel more like private homes than traditional apartments, with generous proportions, refined finishes and exceptional amenity throughout."</p>

<p>Malloch says there is a&nbsp;lack of premium owner-occupier stock of this quality in the market, particularly for downsizers wanting space, privacy and a true lifestyle offering without compromise.&nbsp;</p>

<p>"Demand is expected to be strong given the scarcity of premium riverfront opportunities of this nature within Brisbane’s inner-west."&nbsp;</p>


Joel Robinson

Bottega House secures landmark riverfront site in St Lucia 

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<p data-end="157" data-start="0">The arrival of the first piling rig officially marks the commencement of construction at SIERA’s new beachside apartment development, Exhale, in Northcliffe.</p>

<p data-end="459" data-start="159"><a href="https://www.apartments.com.au/new-apartments/exhale-surfers-paradise-8-enderley-avenue-surfers-paradise-qld-4217">Exhale</a>, a glass-encased tower featuring 54 large-scale apartments at 8 Enderley Avenue, is SIERA’s third Gold Coast development. It follows the recently completed PIPIS Bilinga beachfront project, which achieved suburb-record prices, and the soon-to-be-completed Chevron Island development, Tapestry.</p>

<p data-end="459" data-start="159">[smartcode_project:default project_id=112661 project_image_fid=359603]</p>

<p data-end="651" data-start="461"><a href="https://www.apartments.com.au/developers/siera">SIERA</a> Founder and Managing Director Brent Thompson said the arrival of the piling rig represented a significant milestone for the development, which is scheduled for completion in late 2028.</p>

<p data-end="950" data-start="653">Over the next month, around 260 piles are expected to be installed as work progresses on the basement structure. The building is anticipated to rise above ground level early next year, before unveiling its sculptural glass curtain wall, developed in collaboration with specialist façade engineers.</p>

<p data-end="1081" data-start="952">“The façade was designed to maximise panoramic coastal views while creating a distinctive architectural identity,” Thompson said.</p>

<p data-end="1081" data-start="952">[smartcode_project:default project_id=112661 project_image_fid=355935]</p>

<p data-end="1307" data-start="1083">Designed by BDA Architecture, Exhale will comprise just 54 two- and three-bedroom residences across 26 levels, a level of low-density living rarely delivered in this beachside pocket between Surfers Paradise and Broadbeach.</p>

<p data-end="1522" data-start="1309">The project has been conceived as a resident-only building, with no short-stay accommodation permitted. SIERA says the model is intended to appeal to long-term owner-occupiers rather than transient holiday demand.</p>

<p data-end="1522" data-start="1309">[smartcode_project:default project_id=112661 project_image_fid=361052]</p>

<p data-end="1714" data-start="1524">Residences have been designed with large-format layouts and expansive glazing, with most apartments featuring more than 30 metres of glass frontage to maximise natural light and ocean views.</p>

<p data-end="1945" data-start="1716">The amenity offering spans two levels and centres on wellness and lifestyle, including a heated magnesium pool, sauna, yoga and Pilates studio, gymnasium, private dining facilities, cinema lounge, and dedicated surfcraft storage.</p>

<p data-end="1945" data-start="1716">[smartcode_project:default project_id=112661 project_image_fid=359607]</p>

<p data-end="2220" data-is-last-node="" data-is-only-node="" data-start="1947">More than half of the apartments have already sold. SIERA has also opened a sales gallery for Exhale at its Chevron Island commercial premises, near its Tapestry tower and the site of its second Chevron Island apartment development, which is slated to launch in early 2027.</p>
</section>
</section>

<p>[smartcode_project_cta:default project_id=112661]</p>


SIERA kicks off construction at Northcliffe tower Exhale

<p data-end="320" data-start="79">Local Little Bay residents, along with buyers from premium postcodes across Sydney’s affluent Eastern Suburbs, have dominated purchases in developer-builder Urban Property Group’s first Eastern Suburbs apartment development, <a href="https://www.apartments.com.au/new-apartments/este-little-bay-jennifer-street-little-bay-nsw-2036">ESTE Little Bay</a>.</p>

<p data-end="638" data-start="322">The $250 million coastal project, one of the first new developments in the area in several years, has proven particularly popular with downsizers, especially those from Coogee and Bondi. One Double Bay downsizer paid $4.7 million for a four-bedroom penthouse, setting a new local apartment price record in the process.</p>

<p data-end="864" data-start="640">Buyers have been attracted to the combination of coastal tranquillity, premium design and amenity-rich neighbourhood living. The walkable village setting, along with proximity to three of Sydney’s leading golf courses, New South Wales Golf Club, St Michael’s Golf Club and The Coast Golf Club, has also been a key drawcard.</p>

<p>[smartcode_project:default project_id=112343 project_image_fid=352689]</p>

<p>Built across two low-rise buildings designed by <a href="https://www.apartments.com.au/architects/hill-thalis-architecture-urban-projects-pty-ltd">Hill Thalis</a> and set along a lush, landscaped green spine, designed by leading landscape architect <a href="https://www.apartments.com.au/landscape-architect/arcadia-landscape-architecture">Arcadia</a>, ESTE Little Bay offers a collection of one, two, three and four-bedroom residences with interiors by Richards Stanisich.</p>

<p><a href="https://www.apartments.com.au/developers/urban-property-group">Urban Property Group</a> Sales Director, Tom McIvor said the response to ESTE has been "nothing short of extraordinary."</p>

<p>“Buyers have been quick to recognise ESTE as a rare opportunity to invest in a coastal sanctuary that offers both seclusion and connectivity to the heart of Sydney,” McIvor said.</p>

<p>[smartcode_project:default project_id=112343 project_image_fid=352687]</p>

<p><a href="https://www.apartments.com.au/project-marketer/srm-residential">SRM Residential</a> Senior Director, <a href="https://www.apartments.com.au/project-marketer/srm-residential">Clayton Ross</a> said the local market has responded incredibly well, driven by ESTE’s exceptional location and the rarity it offers.</p>

<p>“We’ve seen strong interest from a variety of buyer groups, all of whom are drawn to the exclusivity and quality of the build and construction by the 4.5-star iCIRT-rated builder / developer, Urban Property Group. There’s truly nothing else like it along Sydney’s coastline.”</p>

<p>[smartcode_project:default project_id=112343 project_image_fid=352690]</p>

<p>The project also includes robust buyer protections, including Resilience Insurance’s Latent Defects Insurance, providing 10 years of structural cover, and an independent iCIRT-rating of the developer.</p>

<p>“The iCIRT-rating adds another layer of confidence,” Ross added. “Buyers see it as a safeguard for their investment and their lifestyle.” A highlight of ESTE’s offering is its exclusive wellness amenities, including a heated rooftop infinity pool and outdoor heated spa, a state-of-the-art Technogym fitness centre, and a sauna.</p>

<p><a href="https://www.apartments.com.au/new-apartments/este-little-bay-jennifer-street-little-bay-nsw-2036">ESTE Little Bay</a> is topped out and is on track to complete towards the end of 2026, with residents moving in before Christmas.</p>

<p>[smartcode_project_cta:default project_id=112343]</p>


Eastern Suburbs buyers snap up ESTE Little Bay apartments

<p data-end="256" data-start="0"><a href="https://www.apartments.com.au/developers/sunland-group">Sunland Group</a> has officially lodged plans for its first Gold Coast apartment project since the departure of the Abedian family from the company three years ago, unveiling a new high-rise proposal for a prominent Broadbeach corner site on Old Burleigh Road.</p>

<p data-end="446" data-start="258">The application was submitted by an entity directed by Tom Jamieson, stepson of longtime Sunland leader Soheil Abedian, and Riaz Rezvanipour, brother-in-law of Sahba Abedian, Soheil’s son.</p>

<p data-end="645" data-is-last-node="" data-is-only-node="" data-start="448">Sunland acquired the 1,283 sqm site on the corner of Old Burleigh Road and Armrick Avenue for $9.5 million late last year and is now seeking approval for a <a href="https://www.apartments.com.au/new-apartments/99-101-old-burleigh-road-broadbeach-qld-4218">42-storey tower with 81 apartments</a>.</p>

<p><img alt="First look: Sunland Group returns to Broadbeach with new Old Burleigh Road tower plans" data-entity-type="file" data-entity-uuid="fea2946d-90ee-4cfc-babe-2a8ad5db2cb6" src="https://s3.ap-southeast-2.amazonaws.com/www.urban.com.au/s3fs-public/inline-images/pers.png?VersionId=BV0fihJw31nDIQ8ozY_h3GbS8mxDyhnm" /></p>

<p>Designed by <a href="https://www.apartments.com.au/architects/contreras-earl-architecture">Contreras Earl Architecture</a>, the proposed tower at 99-101 Old Burleigh Road would deliver a predominantly larger-format apartment mix aimed at the owner-occupier market. Plans include 17 two-bedroom apartments, 55 three-bedroom apartments, and nine four-bedroom residences across 35 residential levels.</p>

<p>The development also incorporates three basement levels, four podium parking levels, two levels of communal recreation facilities, and rooftop plant and equipment. A total of 189 car spaces are proposed, significantly exceeding the 90 spaces required under the planning scheme.</p>

<p>The architecture adopts a sculpted, curvilinear form, with deep wraparound balconies and integrated landscaping intended to soften the tower’s vertical expression. The planning report states the building’s “slender footprint/form provides a complimentary yet varied built form within the local streetscape” and contributes to “a varied, yet ordered skyline.”</p>

<p data-end="626" data-start="350">Contreras Earl noted in its Architectural Statement that from the early stages, the project addressed a fundamental challenge: how to accommodate the required residential yield while avoiding the conventional model of a tower sitting on a rigid, fully resolved parking podium.</p>

<p data-end="928" data-start="628">“The most direct response would have been to consolidate parking into a singular, flat podium and extrude a repetitive tower above,” the statement said. “While efficient, this approach would result in a consolidated built form with limited engagement with the surrounding landscape and public realm.”</p>

<p data-end="1147" data-start="930">Instead, the conventional podium model was “deliberately rejected”. The architects described the base of the building as “a landscaped architectural condition where structure, planting and circulation are integrated”.</p>

<p data-end="1510" data-start="1149">“Rather than presenting a continuous built mass, the base of the building is articulated through a series of concrete planter elements that organise the podium into a fragmented system,” the statement said. “This approach reduces the perceived bulk of the lower levels while establishing a more permeable interface with the streetscape and adjacent open space.”</p>

<p data-end="1510" data-start="1149"><img alt="Sunland" data-entity-type="file" data-entity-uuid="923fad8d-c960-4527-8fbe-975cf1ddf88d" src="https://s3.ap-southeast-2.amazonaws.com/www.urban.com.au/s3fs-public/inline-images/Screenshot%202026-05-25%20at%2010.32.03%E2%80%AFAM.png?VersionId=pngwb0hYOIUpq9vDw6F2EsOiVuHF3DiX" /></p>

<p>&nbsp;</p>

<p>The site sits within the High Density Residential Zone and inside the City of Gold Coast’s unrestricted “HX” building height area, where the planning framework anticipates intensified residential development tied to the expanding light rail corridor. The planning report notes the area is undergoing “transition toward more intense development forms” given its proximity to Broadbeach, Surfers Paradise, and high-frequency public transport infrastructure.</p>

<p>Positioned directly opposite Broadbeach Park and within walking distance of Florida Gardens light rail station, the development would sit among a rapidly evolving stretch of Old Burleigh Road that has become one of the Gold Coast’s most active apartment development corridors.</p>

<p>The application joins a growing pipeline of luxury residential projects reshaping Broadbeach, including nearby developments by 5Point Projects, Polycell, and Graya.</p>

<p>The planning report argues the project contributes toward the Gold Coast’s long-term housing targets under the South East Queensland Regional Plan, which forecasts the need for more than 100,000 additional high-rise dwellings across the city by 2046.</p>

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<p data-end="305" data-is-last-node="" data-is-only-node="" data-start="0">The Abedian family departed Sunland Group in late 2023, ending a four-decade association with the company, and subsequently established the private development firm Abedian &amp; Co. The group is currently delivering <a href="https://www.apartments.com.au/new-apartments/greenmount-residences-cnr-hill-street-and-marine-parade-coolangatta-qld-4225">Greenmount Residences</a> at Rainbow Bay and recently launched <a href="https://www.apartments.com.au/new-apartments/18-mary-avenue-14-18-mary-avenue-broadbeach-qld-4218">18 Mary Avenue</a> in Broadbeach.</p>
</section>


First look: Sunland Group returns to Broadbeach new apartment market with new Old Burleigh Road tower plans

<p style="text-align:start">The Minns Labor Government has established the new Bays West Delivery Authority to lead the development&nbsp;of the Bays West Precinct and Blackwattle Bay Precinct.&nbsp;</p>

<p>The Authority is charged with creating Sydney’s newest precinct, a thriving, connected, sustainable hub with White Bay Power Station as its cultural heart. Its vision is to build on the area’s natural, cultural and industrial history to shape a vibrant new neighbourhood.</p>

<p>The precinct will deliver up to 8,500 well-located homes, including a minimum of 10 per cent affordable and essential worker homes. Combine new housing with public open space, opening public access to the waterfront for the first time in more than 100 years, while retaining important deep-water facilities to support Sydney’s working harbour.</p>

<p>Located just minutes from the Sydney CBD and connected to a world-class metro, ferry, walking and cycling links, the Bays West precinct will rebalance housing growth towards well-serviced inner-city locations and help tackle the state’s housing crisis.</p>

<p>The Bays West Delivery Authority,&nbsp;an agency of the Department of Planning, Housing and Infrastructure, will report to the NSW Minister for Lands and Property who already has oversight of major precinct renewal projects including at Blackwattle Bay and Barangaroo.</p>

<p>As part of the broader Bays West transformation, the Minns Government recently announced that a proposal from Lendlease to redevelop part of the Bays West Precinct has progressed to Stage 2 of the NSW Government’s unsolicited proposals process.</p>

<p><img alt="Sydney" data-entity-type="file" data-entity-uuid="2ed71eb9-d8e8-4fa7-b9d1-de4531dcf2f3" src="https://s3.ap-southeast-2.amazonaws.com/www.urban.com.au/s3fs-public/inline-images/Screenshot%202026-05-25%20at%209.42.31%E2%80%AFAM.png?VersionId=IDryFIbped9SNDg72LEN_EecvhUsOPvp" /></p>

<p>The Minns Labor Government has also confirmed the Bays West precinct will have a new suburb name. This will be the first major suburb built in close proximity to Sydney’s CBD in decades and will encompass the area currently being referred to as Bays West, including Glebe Island and the White Bay Power Station. Served by a new Metro station just five minutes from the CBD, it will become one of the most populous suburbs in the Inner West and one of Sydney’s premier cultural destinations.</p>

<p>An early works program is taking shape, which&nbsp;includes the first stages of an international design competition.&nbsp;</p>

<p>The aim of the Bays West&nbsp;International&nbsp;Design Competition is to&nbsp;ensure design excellence is embedded in the project from the start. The competition will deliver an&nbsp;urban framework that defines the character, ambition and long-term identity of&nbsp;this&nbsp;former industrial precinct as it transitions to a vibrant, inclusive and sustainable residential&nbsp;neighbourhood.</p>

<p>The competition will be led by the Bays West Delivery Authority in partnership with Government Architect NSW.&nbsp;</p>

<p>It will launch with an invitation for a global Expressions of Interest, before moving to an invitation-only stage that will be assessed by a panel that&nbsp;will provide advice to Cabinet who will select a winner.</p>

<p>Premier of NSW, Chris Minns said the establishment of the new Authority is the first step in transforming the Bays West precinct into a vibrant, livable suburb minutes from the Sydney CBD and two stops from Hunter St Station on the Metro West line.</p>

<p>“The Authority will deliver well-located homes close to the heart of the city and integrate the new precinct with Blackwattle Bay and the new Sydney Fish Market.</p>

<p>“This is a generational opportunity to build a new suburb on the city’s edge and open the harbour foreshore to the public for the first time in a century.”&nbsp;</p>

<p>Minister for Lands and Property Steve Kamper said the new Bays West Delivery Authority established by the Minns Government will turbocharge the development of Sydney’s newest suburb.</p>

<p>“The Authority is working at a record pace to deliver an international design competition, planning pathways and a financial model so that this development benefits Sydney with well-designed homes in a central location, close to public transport, jobs, entertainment and essential services.</p>

<p>“If we want Sydney to stay liveable and affordable, we need to be bold about using underutilised government-owned land to deliver homes for the future while making sure essential working harbour functions can be accommodated.”</p>


Bays West Delivery Authority established to "turbocharge" Sydney’s newest suburb

Inflation

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<p>GUEST OBSERVATION</p>
<p>Earlier this year the big fear was that inflation was going to surge led by the US and that this was going to drive aggressive interest rate hikes by the US Federal Reserve and much higher bond yields, which in turn would pressure other asset classes.</p>
<p>Such fears saw a significant correction in global share markets with US shares falling 10%, global shares falling 9% and Australian shares falling 6%. Since then, inflation fears seem to have taken a back seat.</p>
<p>While in most major countries 10-year bond yields are well up from their 2016 multi-decade lows, US bond yields have struggled to stay above 3%, German bond yields are around 0.3%, Japanese bond yields are around 0.09% and Australian bond yields are around 2.58%, with most well below their highs seen earlier this year. So, what happened? Should we still worry about inflation?</p>
<p><strong>What happened?</strong></p>
<p>A whole bunch of things have helped bond yields remain low and kept investors focused elsewhere:</p>
<ul>
<li>First, although US inflation has moved up it remains relatively benign with the core private final consumption deflator around 2% year on year which is the Fed’s inflation target. <br><br>It seems every US jobs report has seen the same “Goldilocks” (not too hot/not too cold) combination of strong jobs growth and falling (now sub-4%) unemployment but low wages growth of around 2.7-2.8% year on year implying low inflation pressures. See the next chart.</li>
</ul>
<p><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/8/14/AMP%201.jpg" alt=""></p>
<ul>
<li>While the Fed has continued its drip feed of rate hikes consistent with strong economic conditions, the lack of any inflation break-out has meant that they have been able to remain gradual, with one hike every three months and monetary policy remains very easy.<br><br>
</li>
<li>Strong US earnings growth has helped distract share market investors. June quarter earnings results have seen 84% of companies surprise on the upside regarding earnings and 71% beat revenue expectations, both of which are above normal levels. <br><br>Reflecting this, June quarter earnings growth has come in around 27% on a year ago, up from expectations for 20% earnings growth in early July.</li>
</ul>
<p><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/8/14/AMP%202.jpg" alt=""></p>
<ul>
<li>The trade war threat has tended to dominate, leading to fears of a hit to global (and US) growth and safe haven demand for assets like bonds (which has helped keep their yields down).<br><br>
</li>
<li>Worries about Italy’s new populist government blowing out its budget deficit and already high level of public debt, or worse still threatening to leave the Euro resulting in bond holders taking a hit on their investment in Italian bonds, have boosted demand for German bonds depressing their yields and helped extend expectations of easier for longer European Central Bank monetary policy.<br><br>
</li>
<li>Other geopolitical events like the crisis in Turkey have kept investors on edge for deflationary shocks. The latest worries about contagion from Turkey as its currency plunged anew are likely overdone. Yes, there will be some impact on Eurozone banks that are exposed to Turkish debt (which will keep the ECB cautious), but it’s unlikely to be economically significant. <br><br>More fundamentally, Turkey is not indicative of the bulk of emerging countries. Its currency has crashed 40% or so this year because of current account and budget deficit blowouts, surging inflation, political interference in its central bank and populist economic mismanagement generally. <br><br>In addition, political tensions with the US following the imprisonment of an American pastor resulting in US sanctions on Turkey including tariff hikes on steel and aluminium have made things even worse. <br><br>The crisis is now being intensified by Turkish PM Erdogan’s rejection of higher interest rates and an international bailout. <br><br>While Brazil, Argentina and South Africa also have particular problems, most of the rest of the emerging world is in far better shape. <br><br>That said, emerging markets will remain vulnerable until the US dollar stops rising (as a rising $US boosts US dollar denominated debt servicing costs for emerging countries that have high foreign debt), the global trade threat ends and uncertainty regarding Chinese growth fades. <br><br>And upwards pressure on the US dollar is likely to continue as the Fed is unlikely to stop its process of gradual rate hikes anytime soon.</li>
</ul>
<p><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/8/14/AMP%203.jpg" alt=""></p>
<ul>
<li>Finally, while growth in the US has accelerated this year, in other major countries it looks to have slowed. So, while there was talk of the Bank of Japan, the European Central Bank and even the Reserve Bank of Australia following the US into tightening this has been pushed out further. Similarly, some signs of a softening in growth in China and the tariff threat have seen the PBOC (China’s central bank) move towards monetary easing.</li>
</ul>
<p>Implications – another extension to the cycle?</p>
<p>These considerations have combined to help fade the inflation/Fed tightening fears of earlier this year with the result that bond yields have been contained and most share markets have been able to recover from their February inflation-scare lows. <br><br>In some ways it’s more of the same because the whole post global financial crisis (GFC) experience has been one of two or three steps forward towards stronger global growth followed by one or two steps back (with eg the Eurozone debt crisis, the 2015 growth scare and various deflation fears along the way). What we have seen this year is effectively a continuation of that.</p>
<p>By delaying or slowing monetary tightening this has all helped extend the economic and investment cycle. The implications have been:</p>
<ul>
<li>A continuation of low returns from cash and low bank deposit rates.<br><br>
</li>
<li>Yield-sensitive share market listed investments like real estate investment trusts have been able to rebound.<br><br>
</li>
<li>Unlisted assets like infrastructure and commercial property have continued to benefit from a search for yield by investors. </li>
</ul>
<p>With global monetary conditions remaining easy and US recession warning indicators still not flashing red (although the yield curve is worth keeping an eye on) our assessment remains that the investment cycle has more upside and that a US recession remains a way off yet. However, the main risks around this relate to the threat of a global trade war should the tariff threat from the US continue to escalate.</p>
<p>But should we still worry about inflation?</p>
<p>However, while the investment cycle has been extended it would be wrong for investors to dismiss the inflation threat – particularly in relation to the US:</p>
<ul style="list-style-type: square;">
<li>First, while it has taken a long time to get there resulting in numerous deflation scares along the way, spare capacity in the US economy has been mostly used up.<br><br>
</li>
<li>Second, numerous indicators point to a very tight labour market in the US – with more vacancies than there are unemployed, very high hiring and quits rates, companies nominating finding suitable labour as a bigger problem than weak demand – suggesting that sooner or later wages growth will start to pick up more significantly.<br><br>
</li>
<li>Third, inflation is well known to be a lagging indicator and it often appears as a problem after the pace of economic growth has peaked.<br><br>
</li>
<li>Finally, from a longer-term perspective there is a risk that the lessons of the break out in inflation from the late 1960s into the 1970s are being forgotten and that populist politicians will seek to weaken the institution of an independent central bank targeting low inflation. President Trump’s tweets critical of the Fed raising interest rates are concerning in this regard.</li>
</ul>
<p>As a result, we remain of the view that (absent a full-blown global trade war) the drip feed of Fed rates hikes will continue well into next year, that the 35 year bull market in bonds that began in the early 1980s is over and that the risks to US and by implication global bond yields into next year are still on the upside. <br><br>This suggests investors need to be a little more wary of yield-sensitive globally-exposed investments that don’t offer inflation protection (like inflation-linked bonds do and the potential for rising rents do in the case of commercial property and infrastructure) than was the case a few years ago when there was still plenty of spare capacity in the US. <br><br>Ongoing Fed rate hikes also point to ongoing upwards pressure on the US dollar which in turn suggests that investors should remain cautious in relation to emerging market shares.</p>
<p>The upside risks for bond yields is less in Australia given much higher unemployment and underemployment and that the RBA is likely to remain well behind the US in raising interest rates. <br><br>With the Fed hiking and the RBA holding, this is all consistent with ongoing downwards pressure on the Australian dollar which we still see falling to around $US0.70, having recently broken below $US0.73.</p>
<p><em><strong>SHANE OLIVER<a href="https://www.propertyobserver.com.au/https://plus.google.com/110172465327488162875?rel=author"></a></strong> is head of investment strategy and economics and chief economist at <a href="https://www.ampcapital.com.au/home">AMP Capital</a> and is responsible for AMP Capital's diversified investment funds.</em></p>
</body></html>

soliver-smf6LQXgW9

What happened to all the worries about rising inflation and bond yields? AMP's Shane Oliver

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<p>GUEST OBSERVATION</p>
<p>Business conditions in Australia have been strong enough to see a surge in company tax revenue that led Treasurer Scott Morrison to outline cuts to personal income taxes over the next seven years in Tuesday’s federal budget.</p>
<p>Those same robust business conditions were reflected in the National Australia Bank Business Conditions Index which was up sharply in April to 21 points (up 6 points from the previous month). This puts it at the highest level in twenty years.</p>
<p><img src="https://images.theconversation.com/files/218445/original/file-20180510-34027-1jwytm7.png?ixlib=rb-1.1.0&amp;q=45&amp;auto=format&amp;w=754&amp;fit=clip" alt=""></p>
<p>NAB chief economist Alan Oster said of the figures:</p>
<p><span style="font-size: 12.16px;">"The record high in the April survey simply reinforces what has been evident since the middle of last year, that business activity in Australia is robust…I see the business survey as indicative as why the government appears to be rolling in corporate tax revenue."</span></p>
<p>In the United States, the Job Openings and Labor Turnover Survey in March showed a surge of job openings - up 472,000 to 6.55 million. That was the highest reading on record. It also showed more workers voluntarily leaving jobs. This is generally regarded as strong sign of worker confidence and is indicative of looming wage inflation.</p>
<p>The US Producer Price Index rose just 0.1% in April according to the Bureau of Labor Statistics, much lower than estimates of 0.3%, the level of growth in March. This put the index up 2.6% over the last 12 months, down from 3.0%.</p>
<p>This eased concerns about rising inflation that have been a major focus of discussions about interest rates at the Federal Open Market Committee at recent meetings. That could make the Fed less likely to raise rates quickly, though the tightening path still seems likely.</p>
<p>All eyes will be on the May 10, inflation statistics release to see if there is less heat than the Fed has seemed to fear, especially with unemployment now running at 3.9%.</p>
<p>Adding to this, China’s Producer Price Index dropped by 0.2% from February, putting the annual rate at 3.1%, the weakest level since October 2016.</p>
<p>Economists were looking for an annual increase of 3.2%, down from 3.7% in February. Because China is such a significant global exporter, the lower Producer Price Index should ease any inflationary pressures in other countries. In other words, China is exporting less inflation.</p>
<p>China’s Consumer Price Index actually fell 1.1% last month, putting the annual rate at positive 2.1%. Last month’s figures in part reflect the timing of Chinese New Year, so one shouldn’t read too much into them. On the other hand, any softening of the Chinese economy is a big deal for Australian exporters and our economy generally.</p>
<p>The coming months overseas will be very revealing. We will get a better handle on whether there are genuine inflationary pressures in the US - or whether perhaps there is a new normal. That will affect short-term interest rates, but also says something about where those rates are likely to move back to in the cycle.</p>
<p>We will also get a better fix on the Chinese economy, at least in terms of growth numbers. What still remains opaque is the health of China’s financial sector. That remains a significant concern.</p>
<p>Both the US and China will factor heavily into two key things in Australia. The first is, of course, the RBA’s interest rate decisions later this year. The second is the key number in the federal budget - the 3.0% real GDP growth assumption that underpins the forecast return to surplus and the rationale for the personal income tax plan.</p>
<p><img src="https://counter.theconversation.com/content/96357/count.gif?distributor=republish-lightbox-basic" alt="The Conversation" width="1" height="1">At least for the next few months, what happens overseas will be more important for the Australian economy than domestic factors per se.</p>
<p><em><strong>Richard Holden</strong>, Professor of Economics and PLuS Alliance Fellow, UNSW</em></p>
<p><em>This article was originally published on <a href="http://theconversation.com" target="_blank">The Conversation</a>. Read the <a href="https://theconversation.com/vital-signs-how-inflation-in-china-and-the-us-could-affect-australia-96357" target="_blank">original article</a>.</em></p>
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How inflation in China and the US could affect Australia: Richard Holden

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<p>EXPERT OBSERVER</p>
<p><span>The minutes of the Reserve Bank’s Board meeting on April 3 contained a surprise in the final paragraph – “it was more likely that the next move in the cash rate would be up, rather than down”. </span></p>
<p><span>We have seen the Governor make that statement in speeches but have not previously seen a formal confirmation from the Board. </span></p>
<p><span>The timing is particularly pertinent given developments around financial conditions; the jobs market; and a looming Inflation Report. </span></p>
<p><span>Think back to April 2016. Markets were relatively benign with one cut priced in over the next 12 months. Today markets are priced for one hike by mid-2019. </span></p>
<p><span>Then we saw the March 2016 Inflation Report. Markets were expecting a rise of 0.5% in the underlying inflation measures while our analysis of the RBA’s forecasts suggests it was expecting 0.6%. </span></p>
<p><span>In the event the underlying CPI measures printed an average of 0.175%. The Board had been forecasting 2.5% for annual underlying inflation for 2016. On the basis of that March Report the forecast was lowered to 1.5% and the Bank cut the cash rate by 0.25% in both May and August 2016. </span></p>
<p><span>On April 24 there will be another Inflation Report, this time for the March quarter 2018. Westpac (and the market) is once again forecasting 0.5% for the average of the underlying measures. This time, however, the Bank is forecasting 1.75% for 2018 implying an average of around 0.45% for each quarter. </span></p>
<p><span>What caused the big surprise in 2016? </span></p>
<p><span>“House purchase” (the cost of building a home) rose by only 0.2% whereas we expect 0.7% (following 0.6% last quarter) for March 2018. </span></p>
<p><span>Most of the demand related components were lower in 2016 than we expect in 2018. </span></p>
<p><span>Clothing and footwear (–2.6% in 2016; –2.0% in 2018); household contents (–0.4%; –0.3%); communication (–1.5%; -0.9%); audio visual (–3.5%;-2.2%); holiday travel (–2.0%; –0.2%) are all expected to be less negative in 2018 than 2016 but nevertheless signalling deflationary forces. </span></p>
<p><span>We also expect the large seasonal components pharmaceuticals (4.8% in 2016; 5.3% in 2018) and education (3.1% in 2016; 3.8% in 2018), to be higher in 2018.</span></p>
<p>Click here <a href="https://www.propertyobserver.com.au/images/2018/4/23/core.jpg" target="_blank">to enlarge.</a></p>
<p><span><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/4/23/core.jpg" alt=""></span></p>
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<p><span>Finally there was a 10% fall in fuel prices in 2016 whereas they have been steady in 2018. This component would have been “trimmed out” of the 2016 numbers although there would have been some indirect effects through business costs that may have further biased down the 2016 numbers. </span></p>
<p><span>So we can reasonably conclude that the housing weakness and strong deflationary effects we saw in 2016 are unlikely to be replicated in the same size in 2018 dismissing the prospects of<br> a 2016 style shock. Nevertheless the themes remain the same – weakening housing and deflation in demand related components precluding us from entirely dismissing a repeat of the 2016 episode. </span></p>
<p><span>Further, I don’t expect that Governor Lowe would respond to such a shock in the way we saw with Governor Stevens. True, both were or are observing a rapidly cooling housing market. </span></p>
<p><span>In March 2016 Sydney house prices had fallen 4.2% (six month annualised) compared with an increase of 18% a year earlier. </span></p>
<p><span>In Melbourne prices were up by 2.8% compared to 21% a year earlier. </span></p>
<p><span>Today the numbers are Sydney (–5.4%; 21%) and Melbourne (2%; 16%). Note the second boom in house prices in both Sydney (21%) and Melbourne (16%) followed the 2016 rate cuts.</span></p>
<p>Click here <a href="https://www.propertyobserver.com.au/images/2018/4/23/dwelling_prices.jpg" target="_blank">to enlarge.</a></p>
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<p><span><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/4/23/dwelling_prices.jpg" alt=""></span></p>
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<p><span>Governor Lowe has the benefit of observing that the Stevens’ rate cuts achieved little in restoring inflation pressures (note we are still experiencing deflationary pressures in the demand related components of the CPI) while the cuts did reignite the housing market requiring another round of macroprudential policies. </span></p>
<p><span>However Governor Lowe is now facing a significant tightening in financial conditions, partly emanating from offshore, that was not apparent for Governor Stevens. </span></p>
<p><span>The Bank Bill Swap Rate which determines funding costs for most corporates and commercial borrowers has lifted by around 30 basis points - spreads against the risk free rate are now the widest since 2009. </span></p>
<p><span>This rate also drives the wholesale funding costs of banks and non- banks. </span></p>
<p><span>Various explanations have been put forward to explain this development. It appears to be the unfortunate coincidence of </span>a number of factors which are impacting both the demand and supply of US money market instruments. On the supply side the US Treasury has sharply lifted its issuance of short term assets to fund the lifting of the debt ceiling and the fiscal stimulus.</p>
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<p><span>On the demand side we have seen the US Federal Reserve begin to shrink its balance sheet after years of quantitative easing while US corporates who had accumulated vast quantities of short term paper investments are now eschewing those investments in favour of very short term liquidity in anticipation of managements’ decisions on the use of this liquidity. </span></p>
<p><span>This flexibility comes in response to tax changes announced in the recent overhaul of </span>tax arrangements which has freed up these liquid investments. In addition, the BEAT tax has encouraged US branches of foreign banks to replace inter-office loans with direct wholesale funding.</p>
<p><span>These forces have boosted the LIBOR rate which has fed directly into the BBSW rate as Australian banks convert more expensive US funding to AUD or switch demand back to the domestic markets. </span></p>
<p><span>While conditions for business borrowers have tightened, banks have not adjusted their standard variable mortgage rates therefore moderating the impact on the economy of these higher rates. </span></p>
<p><span>However, banks must be experiencing some pressure. This would be despite the fact that banks have raised their retail deposit shares of funding from around 50% pre GFC to around 60%. </span></p>
<p><span>At least one mortgage lender has raised its mortgage rates (another bank Suncorp raised rates by 5bps). Members Equity<br> Bank has raised its owner occupier principal &amp; interest (P&amp;I) rates by 6 bps; Investor P&amp;I by 11 bps; and investor interest-only loans<br> by 16 bps. This entity would not have the extensive access to retail deposits that we see for the banks and would therefore most likely be disproportionately affected by the increase in wholesale rates. ME Bank also attributed the rate hike to increased compliance costs associated with the regulator. </span></p>
<p><span>These policy moves from the regulator can also be expected to tighten financial conditions over the medium term. The Reserve Bank’s Financial Stability Review notes that, according to their estimates, directions to move borrowers from interest only loans to principle and interest may have implications for households’ disposable incomes. </span></p>
<p><span>Around 30% of the current stock of mortgage credit is expected to move from IO to P&amp;I over the next 4 years. The step up in mortgage payments when the IO period ends </span>is estimated to be in the range of 30 to 40 per cent even after factoring in the typically lower interest rates charged on P&amp;I loans.</p>
<p>Click here <a href="https://www.propertyobserver.com.au/images/2018/4/23/funding.jpg" target="_blank">to enlarge.</a></p>
<p><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/4/23/funding.jpg" alt=""></p>
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<p><span>This constant pressure on the household balance sheet can, arguably, lower the “neutral” interest rate over that period. Currently the Reserve Bank estimates it as a cash rate of 3.5%. </span></p>
<p><span>Finally it would be remiss not to point out further confirmation of our view that the growth pace of the labour market would ease significantly in 2018. Recall that employment growth over 2017 has been around 3.4% while the momentum in the first three months of 2018 has slowed to 1.2%. We remain comfortable with an expectation of around 2% employment growth in 2018 – a pace likely to hold the unemployment steady around 5.5%. </span></p>
<p><span>In conclusion we do not see the decision by the Board to speculate that rates have bottomed out as significant. The basic trends in inflation remain in place along the lines of what we saw in 2016. In such an environment there will always be a chance of a much lower Inflation Report on April 24 than we are expecting (recall 2016). However, until recently, the hurdle for lower rates has been much higher than 2016. </span></p>
<p><span>In 2016, we did not experience this bout of tightening financial conditions either through rising funding costs or regulation. Combine that with a slowing housing and jobs markets and if anything, the Board’s declaration does look a little bold. </span></p>
<p>Westpac remains very comfortable with its out of market call for the cash rate to remain on hold in 2018 and 2019.</p>
<p><span><em>BILL EVANS</em><em> is chief economist of <a href="https://www.westpac.com.au/" target="_blank">Westpac</a>.</em> </span></p>
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Benign inflation number will result in no cash rate jump: Bill Evans

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<div>There are two very interesting data releases due out on Tuesday.</div>
<div> </div>
<div>Firstly the regional population growth figures, which shed more light on where people have been migrating from and to in Australia, which is always very informative. </div>
<div> </div>
<div>And then there is the big one: <strong><span style="text-decoration: underline;">inflation!</span></strong><br><strong><span style="text-decoration: underline;"><br></span></strong>I <a href="http://petewargent.blogspot.com.au/2018/01/rate-hikes-are-not-on-cards" target="_blank">looked here</a> at the last round of inflation numbers, released in January. </div>
<div> </div>
<div>This is clearly going to be a vital data series because it shows whether the Reserve Bank of Australia (RBA) is on target to get inflation back up to its mandated target. </div>
<div> </div>
<div>With housing market activity now easing, it will be very interesting to see whether inflation is still on course to rise towards the target over the next couple of years, or whether there will be further downward pressure on interest rates. </div>
<div> </div>
<div>The rhetoric from the RBA has been very clear: it doesn't want to cut rates further under any circumstances, unless it absolutely has to. </div>
<div> </div>
<div>Over the year to December, underlying inflation rose +1.87 per cent, which was yet again under the 2 to 3 per cent target range.<br><br>Very soft inflation has been a feature of the economy since the end of 2015.<br><br>There doesn't seem to be a whole lot of pressure on rents at the moment, which is one contributory factor.<br><br>Some of the sources of the inflation that has been in evidence have been in fuel costs, energy, education, and 'sin taxes' on alcohol and tobacco.<br><br><strong><span style="text-decoration: underline;">Market forecasts</span></strong><br><br>
</div>
<div>Bloomberg released its survey of 20 economists for the March 2018 quarter.</div>
<div> </div>
<div>It showed a market median consensus for a quarterly result of +0.5 per cent, which would put annual underlying inflation at about the same level at +1.85 per cent.</div>
<div> </div>
<div>However, some forecasts see a bit of downside risk, most notably AMP.</div>
<p> </p>
<div class="separator"><a href="https://2.bp.blogspot.com/-VdEOo5MB2xY/WtnSxc0xgmI/AAAAAAAApf0/evOQx1tXAzYuYi-6vdRTInHVX4jeP3uvgCLcBGAs/s1600/ABS%2BCPI.jpg"><img src="https://2.bp.blogspot.com/-VdEOo5MB2xY/WtnSxc0xgmI/AAAAAAAApf0/evOQx1tXAzYuYi-6vdRTInHVX4jeP3uvgCLcBGAs/s640/ABS%2BCPI.jpg" width="640" height="378" data-original-height="408" data-original-width="689"></a></div>
<div>Stay tuned for that, and more analysis here on this blog, from 11.30am on Tuesday.</div>
<div> </div>
<div>If you like investment property or continued low mortgage rates, say to yourself a silent prayer for a benign print!</div>
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Inflation data will shape future interest rate direction: Pete Wargent

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<p>Australia’s inflation target is to keep annual consumer price inflation between 2 and 3 per cent, on average, over time, a Reserve Bank of Australian discussion paper re-affirmed last week.</p>
<p>The measure of consumer price inflation is the percentage change in the Consumer Price Index (CPI), which is deemed is a suitable measure because it captures price changes for the goods and services that households buy, is independently produced by the Australian Bureau of Statistics, is publicly available and does not get revised.</p>
<p>Since the early 1990s, the rate of CPI inflation – also known as ‘headline inflation’ – has, on average, been within the target range and expectations of inflation have been consistent with the target.</p>
<p>The Reserve Bank also closely monitors ‘underlying’ inflation, which excludes items that have particularly low or high inflation rates (either frequently or in a given quarter).</p>
<p>This allows the Reserve Bank to look through any temporary factors that are affecting the CPI and to assess broader inflation pressures.</p>
<p>Underlying inflation has averaged around the same as headline inflation since the early 1990s. Low and stable inflation has reduced uncertainty in the economy and has underpinned economic growth.</p>
<p>  </p>
<p><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/3/16/I1.jpg" alt=""></p>
<p>The paper noted the inflation target provides a framework to guide a central bank’s policy decisions and to ensure accountability in its management of the economy.</p>
<p>The Reserve Bank adopted the inflation target in the early 1990s, as did various central banks around the world, with other central banks following suit over the subsequent decade.</p>
<p>In 1996, the Reserve Bank and the Government agreed on the importance of the inflation target and formalised this agreement in the Statement on the Conduct of Monetary Policy (which is typically updated following a change of government or Reserve Bank Governor).</p>
<p>The Reserve Bank uses an inflation target to help achieve its goals of price stability, full employment, and prosperity and welfare of the Australian people.</p>
<p>The paper noted this was because price stability – which means low and stable inflation – contributes to sustainable economic growth.</p>
<p>"Targeting inflation of 2 to 3 per cent avoids the many costs to the economy from inflation that is too high or too low," it noted.</p>
<p><strong>If inflation is too high:</strong></p>
<ul>
<li>
<p>Consumers’ purchasing power – the real value of money – is reduced. If prices are increasing faster than people’s nominal incomes, they will be able to afford fewer goods and services than before.</p>
</li>
<li>
<p>Workers may then seek larger wage increases to compensate for the effects of higher inflation on their purchasing power. In turn, higher wage growth raises firms’ costs, which may lead firms to raise prices further and/or reduce the number of workers they employ.</p>
</li>
<li>
<p>Spending and investment decisions may be distorted. This is because high inflation can influence when households make purchases or businesses make investment decisions. For example, if households expect higher inflation, they may make purchases sooner than originally planned to avoid paying more.</p>
</li>
<li>
<p>Returns on investment may be lower. Inflation influences investment decisions because a higher inflation rate will reduce the real return on the investment. Inflation can also affect the real interest paid by borrowers to lenders. For example, if inflation turns out to be higher than expected when the loan was agreed, the lender will get less than they had planned because inflation reduces the purchasing power of the interest earnings they receive.</p>
</li>
<li>
<p>Businesses need to update their prices more frequently and consumers spend more time comparing prices. This increases their uncertainty about the economy, which may discourage spending and investment and reduce economic growth.</p>
</li>
<li>
<p>A country’s international competitiveness may be lowered. If inflation is higher in one country, then the goods and services it produces will become more expensive compared with other countries (unless its currency depreciates). For more on exchange rates, see <a href="https://www.rba.gov.au/education/resources/explainers/exchange-rates-and-the-australian-economy">Explainer: Exchange Rates and the Australian Economy</a>.</p>
</li>
</ul>
<p><strong>If inflation is too low:</strong></p>
<ul>
<li>
<p>Consumers may delay purchases if they expect prices to fall. As a result, falling prices – a situation called ‘deflation’ – can lead to lower spending. Businesses could respond by laying off workers or reducing wages which, in turn, places further downward pressure on demand and prices.</p>
</li>
<li>
<p>Businesses facing difficult conditions may find it hard to reduce the real wages of their employees and may resort to laying off workers instead. This is because businesses that need to decrease their real wages usually choose to allow their nominal wages to grow at a rate that is below the general rate of inflation, and if inflation is very low this is more difficult to do.</p>
</li>
</ul>
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<p>A real value is a dollar value – also known as a nominal value – less the effects of inflation.</p>
<p>The difference between real and nominal values can be shown using income as an example. Suppose that a worker earned $100 last year and $105 this year. The worker has received a 5 per cent increase in nominal income. Also suppose that the inflation rate is 2 per cent over the same period. If we subtract the rate of inflation from the growth in the worker’s nominal income, then the worker’s real (or inflation-adjusted) income has increased by 3 per cent. This means that the worker can buy 3 per cent more goods and services than before. In other words, their purchasing power has increased by 3 per cent. This and some other examples are shown below.</p>
<p><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/3/16/I2.jpg" alt=""></p>
<p>Monetary policy aims to keep inflation between 2 and 3 per cent, on average, over time, in support of the Reserve Bank's goals of price stability and full employment. Assessing the current and expected rate of inflation against the inflation target helps the Reserve Bank in making monetary policy decisions. When inflation is above the target, this can be a sign that the economy is overheating. When inflation is below the target, this can be a sign that there is spare capacity in the economy.</p>
<p>The cash rate is then used to dampen or stimulate economic activity so that inflation is consistent with the target. If inflation is expected to be higher than the target for a prolonged period, the Reserve Bank would typically increase the cash rate. If inflation is expected to be lower than the target for a sustained period, the Reserve Bank would typically lower the cash rate. Changes in the cash rate take time to affect the economy.</p>
<p>The discussion paper noted that was why the Reserve Bank looks to what inflation is forecast to be in the future when deciding on the level of the cash rate today. </p>
<p>When deciding if monetary policy should respond to inflation – both current and expected – the Reserve Bank Board distinguishes between temporary and persistent changes in inflation.</p>
<div><strong>If inflation is expected to be:</strong></div>
<div><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/3/16/I3.jpg" alt=""></div>
<div class="image-graph">Temporary changes in inflation may be caused by things like supply disruptions or seasonal sales, while persistent changes in inflation arise from things like a sustained increase in wage growth across the community. The Reserve Bank ‘looks through’ temporary changes in inflation when setting monetary policy. However, if households and businesses expect a change in inflation to be longer lasting, it can have a bigger effect on their behaviour and consequently become more important to monetary policy decisions.
<p><strong>Why target 2 to 3 </strong>per cent<strong>?</strong></p>
The 2 to 3 per cent target range is sufficiently low that inflation at this level does not significantly influence people’s economic decisions. This target range was set in the early 1990s when inflation of around 2 to 3 per cent had already been achieved. It was decided that inflation should be kept at around that rate, given the fact that the lowest average inflation rate experienced by other countries had, over many years, been a little over 2 per cent. At these levels of inflation an economy can achieve sustainable growth in output and employment.A higher inflation target could increase uncertainty and costs in the economy. A lower inflation target, on the other hand, is costly to achieve.For example:<ol>
<li>The reduction in growth in spending and investment required to keep inflation at a lower target would lower output growth and increase unemployment.</li>
<li>Having inflation much lower than 2 to 3 per cent over the medium term can limit the ability of monetary policy to stimulate demand. For example, in response to a sharp decline in aggregate demand, it may be the case that monetary policy should be set such that real interest rates become negative. Having a very low inflation target (so that actual inflation is close to zero) makes it more difficult to reduce real interest rates to such levels.</li>
<li>Businesses that need to decrease their real wages and prices in response to negative events usually choose to allow their nominal wages and prices to grow at a rate that is below the general rate of inflation; if inflation is very low, there is less room for a business’s wages or prices to grow at a rate below inflation.</li>
</ol>In addition, the inflation target must be high enough to account for measurement bias in the CPI. The CPI is upwardly biased because it is calculated with a fixed basket of goods and services which is only updated once a year; until 2017 it was updated only once every few years.A fixed basket does not take into account that households will adjust their spending patterns to buy less of items with relatively higher inflation rates and buy more of items that are becoming relatively cheaper. Consequently, the price of the basket of goods and services that they actually consume will increase by less than the price of the fixed basket. The Reserve Bank’s inflation target is flexible. This means that inflation does not need to be in the target range at all times, but on average, over time. Inflation can be affected by temporary influences, such as supply disruptions or a tax change, which monetary policy should not respond to.Furthermore, having a flexible inflation target allows the Reserve Bank to consider its broader objectives of employment and financial stability. </div>
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Understanding the RBA's inflation target: Economics 101 

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<p>It’s not often there are <a href="https://www.businessinsider.com.au/anz-forecasts-another-interest-rate-hike-in-may-as-australias-inflation-outlook-picks-up-2018-1" target="_blank" style="font-family: Tahoma, Helvetica, Arial, sans-serif; font-size: 12.16px;">news stories</a><span style="color: #333333; font-family: Tahoma, Helvetica, Arial, sans-serif; font-size: 12.16px;"> anticipating Australian Bureau of Statistics data a week before it comes out. But Wednesday’s Consumer Price Index was an exception. </span><a href="https://www.propertyobserver.com.au/https://www.abs.gov.au/ausstats/abs@.nsf/mf/6401.0" target="_blank" style="font-family: Tahoma, Helvetica, Arial, sans-serif; font-size: 12.16px;">The data showed</a><span style="color: #333333; font-family: Tahoma, Helvetica, Arial, sans-serif; font-size: 12.16px;"> a 0.6% rise in the Consumer Price Index for the December quarter, bringing the annual rate up to 1.9% (from 1.8% in the 12 months to September).</span></p>
<p>This is still below the Reserve Bank of Australia’s <a href="https://www.rba.gov.au/inflation/inflation-target" target="_blank">target range</a> of 2-3%, but it’s edging closer. Kind of. It was still below what was <a href="https://www.rba.gov.au/publications/smp/2017/aug/pdf/06-economic-outlook.pdf" target="_blank">forecasted</a>.</p>
<p>One reason why market participants follow the Consumer Price Index so closely is the impact it has on the RBA in setting the official cash rate. For the RBA to start raising interest rates would require it to be pretty confident that the <a href="https://www.investopedia.com/terms/d/disinflation.asp" target="_blank">disinflationary</a> pressures in the Australian economy have abated.</p>
<p>That still seems unclear, which is why it is a near certainty they will leave the cash rate unchanged at the next board meeting on Tuesday.</p>
<p>Two changes to how the Consumer Price Index is calculated were also introduced. Firstly, the weights that different categories of expenditure receive were tweaked, as they are periodically. This is to make sure that the goods in the “basket” reflect what households are actually spending their money on.</p>
<p>In the new calculation, items like childcare (now 1.35%) and education (now 4.27%) <a href="https://www.ausstats.abs.gov.au/ausstats/subscriber.nsf/0/B1D241EA20B49DA0CA258225000D7F1F/%24File/64400_2017.pdf" target="_blank">get a larger weighting</a>.</p>
<p>A less routine and more interesting change was to use scanner data from retailers at point-of-sale in calculating the Consumer Price Index. This was spearheaded by the work of my UNSW School of Economics colleague Professor Kevin Fox, who <a href="http://www.abs.gov.au/ausstats/abs@.nsf/latestProducts/6401.0Media%20Release1Dec%202017?OpenDocument">was quoted by the ABS</a>:</p>
<p>I strongly support the ABS decision to implement new CPI methods for the treatment of transactions data… These new methods will enhance the accuracy of the Australian CPI, provide additional analytics and better inform policy formulation.</p>
<p>Scanner data has been used in the Australian CPI since 2014, and makes up about one quarter of the expenditure basket. There were some issues, however, in how that data was incorporated. Roughly speaking (<a href="https://www.ausstats.abs.gov.au/ausstats/subscriber.nsf/0/79CD01D5D060B163CA2581400020AC01/%24File/6401060004_2017.pdf" target="_blank">for technical details see the ABS report</a>), the changes involve using all the products available (rather than a sample) and weighting products by their economic importance. A bonus for the cash-strapped ABS is that, as they put it</p>
<p>The use of multilateral methods will require fewer resources in the medium term.</p>
<p>Using more data, and using it better is definitely a good idea. And in the long run it will give us more informative, and reliable inflation figures.</p>
<p><a href="http://www.rba.gov.au/statistics/frequency/fin-agg/2017/fin-agg-1217" target="_blank">Reserve Bank of Australia data</a> released Wednesday showed fairly steady credit growth compared to previous months. Housing credit grew at 6.3% for the year to December, as in 2016. Of course, one doesn’t want this to be too high given concerns about property bubbles, not too low given the importance of the housing market to the broader economy.</p>
<p>Meanwhile, in the US, this week marked the final board meeting of outgoing Federal Reserve Chair Janet Yellen. As expected, they left official interest rates unchanged at 1.25-1.50%, <a href="https://www.federalreserve.gov/monetarypolicy/files/monetary20180131a1.pdf" target="_blank">issuing this statement.</a></p>
<p>The Fed continues to be heavily focused on inflation, much like the RBA. The Federal Open Market Committee statement made that point, stating:</p>
<blockquote>
<p>Inflation on a 12‑month basis is expected to move up this year and to stabilise around the Committee’s 2% objective over the medium term. Near-term risks to the economic outlook appear roughly balanced, but the Committee is monitoring inflation developments closely.</p>
</blockquote>
<p>This is best read as a sign that another rate rise at the March meeting is likely, unless material new information arrives in the interim.</p>
<p><img src="https://counter.theconversation.com/content/90924/count.gif?distributor=republish-lightbox-basic" alt="The Conversation" width="1" height="1">One of the significant economic stories of 2018 seems likely to be the divergence between US and Australian interest rates, what it means for the Australian dollar, and what it means for capital flows to Australia. At the moment, it seems the Fed will steadily raise US interest rates this year, while the RBA will be stuck with hard choices and may be reticent to begin a tightening cycle.</p>
<p><span><a href="https://theconversation.com/profiles/richard-holden-118107" target="_blank">Richard Holden</a>, Professor of Economics and PLuS Alliance Fellow, <em><a href="http://theconversation.com/institutions/unsw-1414" target="_blank">UNSW</a></em></span></p>
<p>This article was originally published on <a href="http://theconversation.com" target="_blank">The Conversation</a>. Read the <a href="https://theconversation.com/vital-signs-weak-inflation-means-interest-rates-arent-rising-anytime-soon-90924" target="_blank">original article</a>.</p>
<p><em>Vital Signs is a weekly economic wrap from UNSW economics professor and Harvard PhD Richard Holden (<a href="https://twitter.com/profholden" target="_blank">@profholden</a>). Vital Signs aims to contextualise weekly economic events and cut through the noise of the data affecting global economies.</em></p>
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Rates won't rise anytime soon with weak inflation: Richard Holden

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<p>Since the Global Financial Crisis (GFC) there have been a few occasions when many feared inflation was about to rebound and push bond yields sharply higher only to see growth relapse and deflationary concerns dominate.</p>
<p>As a result, expectations for higher inflation globally has been progressively squeezed out to the point that few seem to be expecting it.</p>
<p>However, the global risks to inflation and bond yields are finally shifting to the upside, with investment markets starting to take note as evident in the pullback in global share markets seen over the last few days. But how big is the risk? Are we on the brink of another bond crash that will engulf other assets? </p>
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<div class="column">But first some context. In a big picture sense, inflation has been falling since the mid 1970s-early 1980s. </div>
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<p>The fall in inflation over the last 30-40 years reflects: the inflation-fighting policies of central banks; supply side reforms that boosted productivity; globalisation that brought a billion or so workers into the capitalist system; and the benefits of the information technology revolution harnessed by the likes of Amazon and Uber.</p>
<p>The fall in inflation in turn has been the main driver of a super cycle bull market in bonds, with yields trending down since the early 1980s. (Don’t forget, when bond yields fall, bond prices rise.</p>
<p>Suppose the government issues a $100 bond paying $4 pa in interest for an initial yield of 4%. If investors push yields down to 3%, the bond’s price will be pushed up until the 3% yield is achieved with the $4 interest payment.)</p>
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<p><span>The collapse in bond yields into 2016 was accentuated by: worries about deflation; investors </span><span>extrapolating very low official interest rates; worries economic growth will remain slow; safe- haven investor demand for bonds in response to geopolitical concerns and the experience that bonds always rally when shares fall; an increasing demand for income-yielding assets as populations age; and a shortage in the supply of bonds as budget deficits fell when central banks have been buying bonds. But the main driver since the early 1980s has been the fall in inflation. </span></p>
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<p><span>The 35-40-year fall in inflation and bond yields has also underpinned strong gains in most other assets. Put simply: </span></p>
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<p><span>the shift to lower in inflation allowed interest rates to fall; </span></p>
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<p><span>this allowed bond yields to fall (resulting in capital gains); </span></p>
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<p><span>which in turn allowed shares to be rerated higher (price to earnings multiples rose from around seven or eight times in the early 1980s to around 15-17 times), which boosted share returns over and above what would have been expected from dividend yields and earnings growth alone; </span></p>
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<li>lower interest rates allowed other assets to trade on lower yields boosting both commercial property returns, house prices and infrastructure returns. In particular, residential property gained as lower mortgage rates allowed people to borrow more relative to their incomes. </li>
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<p>Inflation starting to stir globally, bond yields on the up </p>
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<div class="column">Since late 2016, our assessment has been that the super cycle bull market in bonds is over. This remains the case for several reasons. First, deflation risks are receding and gradually giving rise to inflation risks, led by the US: </div>
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<li>Global growth is now starting to run above potential again and this is leading to a decline in spare capacity and with global growth now accelerating this is likely to have been used up by late next year. Diminishing spare capacity makes it easier for companies to raise prices. </li>
<li>
<p><span>While Europe, Japan and Australia are lag</span>ging (as evident in still low inflation readings recently), the US economy is likely around full capacity evident in unemployment around 4%, increasing anecdotes of labour shortages and rising wages and business surveys pointing to rising selling prices. This will likely drive 4 (or possibly 5) Fed hikes this year whereas the market is only allowing for 2 or 3, with the Fed’s January meeting indicating a bit more hawkishness.</p>
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<p><span>Commodity prices are rising most notably oil, which will at least boost headline inflation. </span></p>
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<p>Thirdly, bonds remain over loved with a huge post-GFC inflow into bond funds in the US. (The same picture applies if ETFs are added in.) This leaves them vulnerable to a reversal if investor sentiment towards them turns really negative. </p>
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<p><span>Finally, central bank buying of bonds is starting to slow. </span></p>
<p>For these reasons, it’s likely that the upswing in bond yields that began in the second half 2016, then paused last year and has since resumed, will continue.</p>
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<p><span>Reasons bond crash/perfect storm fears are overdone </span></p>
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<p><span>Naturally as falling inflation gives way to rising inflation and bond yields head higher many assume the worst – such as a </span></p>
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<p><span>rerun of the 1994 mini bond crash or some sort of “perfect storm” where inflation takes off but central banks are powerless to stop it because high debt levels mean they can’t raise rates much. While we see bond yields rising, it’s likely to be gradual (like over the last 18 months) and a perfect storm is unlikely</span></p>
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<p><span>ï </span><span>Historically, bond yields have remained low after a long-term downswing for around several years as it takes a while for growth and inflation expectations to really turn back up. See the circled areas for US and Australian bond yields in the second chart in this note. </span></p>
<p><span>ï </span><span>While the Fed is likely to raise interest rates more than currently expected by the US money market (we expect four hikes and the market is factoring in two or three), the process of rate hikes is still likely to remain gradual. </span></p>
<p><span>ï </span><span>Central banks in Europe, Japan and Australia remain a fair way off starting to tighten so global monetary policy will remain easy for a while yet. </span></p>
<p><span>ï </span><span>Global inflation is unlikely to take off too quickly given spare capacity in labour markets (in Europe and Australia) and technological innovation continuing to constrain inflation. </span></p>
<p><span>ï </span><span>Inflation expectations are anchored at low levels far better than was the case in, say, 1994. </span></p>
<p><span>ï </span><span>Finally, the idea that high debt levels mean that central banks will either have to live with a debt crisis or much higher inflation is nonsense. High debt levels just mean that interest rate increases are more potent than they used to be – so when inflation does start to become an issue, they won’t have to raise interest rates as much to bring spending and inflation back under control than was the case in the past. In fact, high debt levels mean central banks have more power than in the past to control inflation.</span></p>
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<p><span><strong>Implications for investors? </strong></span></p>
<p><span>There are several implications from rising bond yields.</span></p>
<p><span>Firstly, expect mediocre returns from sovereign bonds. Over the medium term, the return an investor will get from a bond will basically be driven by what the yield was when they invested. 10-year bond yields of 2.8% in Australia imply bond returns over the next decade of just 2.8% or so! And in the short term, rising bond yields will mean capital loses</span></p>
<p><span>Secondly, higher bond yields will impact share market returns as they make shares more expensive. Shares will be okay if the rise in bond yields is gradual and so can be offset by rising earnings – as we expect this year – but a large abrupt back up in bond yields will be more of a concern. In any case expect a more volatile ride in shares. </span></p>
<p><span>Thirdly, defensive high-yield sectors of the share market are likely to remain under pressure. This includes real estate investment trusts and utilities that benefitted from falling bond yields. With bond yields trending up, REITs and utilities are likely to remain relative underperformers. </span></p>
<p><span>Fourthly, when it comes to real assets like unlisted commercial property and unlisted infrastructure, the search for yield is likely to remain a return driver unless bond yields rise aggressively. Commercial property has lagged listed property in responding to the decline in bond yields and so the gap between commercial property yields and bond yields leaves commercial property still looking attractive. Heading into the GFC, it was only when bond yields rose above commercial property yields that commercial property prices started to struggle. We are a long way from that but as bond yields trend higher the valuation boost to commercial property and infrastructure returns will gradually fade. </span></p>
<p>Key points</p>
<p>&gt;  Rising global growth and rising commodity prices indicate the risks to inflation are gradually moving to the upside. This is most acute in the US with the Fed likely to raise rates more than the market expects this year.</p>
<p>&gt;  This supports the view that the 35-year super cycle decline in bond yields is over.</p>
<p>&gt;  Higher US inflation and a more aggressive Fed will likely boost volatility this year. However, the back up in bond yields is likely to remain relatively gradual, and other countries including Australia will lag the US. </p>
<p><span class="s1"><a href="https://www.propertyobserver.com.au/https://plus.google.com/110172465327488162875?rel=author"><em>SHANE OLIVER</em></a></span><span class="s2"><em> is head of investment strategy and economics and chief economist at </em><a href="https://www.ampcapital.com.au/home"><span class="s1"><em>AMP Capital</em></span></a><em> and is responsible for AMP Capital's diversified investment funds.</em></span></p>
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The risk for property from higher global inflation and bond yields: Shane Oliver

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<p><span>The Consumer Price Index (CPI) rose 0.6 per cent in the December quarter 2017, the latest Australian Bureau of Statistics (ABS) figures reveal.</span></p>
<p>It was below expectation, with some economists suggesting there was still scope for another rate cut.</p>
<p><span>Certainly no early RBA </span><span>hike here! was Shane Oliver's immediate tweet.</span></p>
<p><span>The latest figure follows a rise of 0.6 per cent in the September quarter 2017.</span></p>
<p>The Australian dollar dipped on the latest data.<br><br><span>The most significant price rises this quarter are automotive fuel (+10.4%), tobacco (+8.5%), domestic holiday travel and accommodation (+6.3%) and fruit (+9.3%). </span></p>
<p><span>These price rises were partially offset by falls in international holiday travel and accommodation (-1.7%), audio visual and computing equipment (-3.5%) and telecommunication equipment and services (-1.4%).</span><br><br><span>The CPI rose 1.9 per cent through the year to December quarter 2017 having increased 1.8 per cent through the year to September quarter 2017.</span></p>
<p><strong>What the economist say</strong></p>
<p>Chief Economist for the ABS, Bruce Hockman, said while the annual CPI rose 1.9 per cent, annual inflation in most East Coast cities rose above 2 per cent, due in part to the strength in prices related to housing.</p>
<p><span>"Softer economic conditions in Darwin and Perth have resulted in annual inflation remaining subdued at 1.0 and 0.8 per cent respectively."</span></p>
<p><span>AMP Capital's Shane Oliver shared the below chart on his Twitter.</span></p>
<p>Click here <a href="https://www.propertyobserver.com.au/images/2018/1/31/inflation%20below.jpg" target="_blank">to enlarge.</a></p>
<p><span><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/1/31/inflation%20below.jpg" alt=""></span></p>
<p>Economist Stephen Koukoulas says the inflation data continue's to scream "rate cut."</p>
<p>"Another qtr below target. Underlying looks like it's decelerating RBA says "sorry folks" to the 730,000 people unemployed, 1.1 million underemployed &amp; the 12 million lucky to get a 2% pay rise," Koukoulas tweeted.</p>
<p>IFM chief economist Alex Joiner disagreed.</p>
<p>"AU  CPI data slightly weaker than expected on headline and 'core' measures, unlikely to shift the RBA's assessment of the inflation/wages environment materially at next week's board meeting."<a class="gmail-twitter-hashtag gmail-pretty-link gmail-js-nav" href="https://twitter.com/hashtag/ausbiz?src=hash"><br></a></p>
<p>Veteran ABC business journalist Peter Ryan says the RBA may be concerned at softer trimmed mean of 0.4 percent and 1.8 percent, with CPI inflation "a little weaker than expected."</p>
<p>CommSec's Ryan Felsman noted inflation is still under control.</p>
<p>"Inflationary pressures remain subdued so the Reserve Bank will remain on the sidelines for some time yet.</p>
<p>"But there was a modest lift in the rate of annual headline inflation, finishing a touch below the Reserve Bank’s forecast of 2.0 per cent for 2017. Petrol, tobacco, fruit and domestic travel and accommodation prices all rose over the quarter.</p>
<p>"Though this was partially offset by the continued decline in computing and telecommunications-related goods and services prices. </p>
<p class="x_bullets"><span>"Underlying inflation - which excludes the more volatile energy and food components – also remained below the Reserve Bank’s target band of 2-3 per cent. </span></p>
<p class="x_bullets"><span>"But the 2017 annual print was a touch above the Board’s 1.75 per cent forecast. </span></p>
<p class="x_bullets"><span>"And underlying inflation looks well placed to be a touch above the Reserve Bank forecast for 2018 of 1.75 per cent.</span></p>
<p class="x_bullets"><span>"Still, not enough to prompt any action on interest rates," he said.</span></p>
<p class="x_bullets"><span>Pete Wargent shared a chart on underlying inflation which sits at 1.9 percent.</span></p>
<p class="x_bullets">Click here <a href="https://www.propertyobserver.com.au/images/2018/1/31/wargent_chart.jpg" target="_blank">to enlarge.</a></p>
<p class="x_bullets"><span><img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/1/31/wargent_chart.jpg" alt=""></span></p>
<p>To find out more information <a href="http://www.abs.gov.au/ausstats/abs@.nsf/latestProducts/6401.0Media%20Release1Dec%202017?OpenDocument" target="_blank">click here.</a>  </p>
<p>Westpac had suggested there was a downside risk to the December quarter CPI.</p>
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jrobinson-rf4aSBido9

Inflation still weak as prices rise 0.6 percent in December quarter

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<p><span>Guest Observer</span></p>
<p>RBA Deputy Governor Guy Debelle says that the reweighting of the CPI has, in the past, resulted in a lower rate of inflation.</p>
<p><span>In the 7<span><span>th</span></span><span class="Apple-converted-space"> </span>Warren Hogan Memorial Lecture, RBA Deputy Governor Guy Debelle gave an insightful and pertinent talk on uncertainty and its impact on monetary policy (see<span class="Apple-converted-space"> </span></span><a href="https://www.rba.gov.au/speeches/2017/sp-dg-2017-10-26" target="_blank"><span>“Uncertainty”).</span></a><span><span class="Apple-converted-space"> </span></span></p>
<p><span>But following on from yesterday’s weak CPI update, which suggested the Australian economy may have entered a “lowflation” trap (see<span class="Apple-converted-space"> </span></span><a href="https://www.propertyobserver.com.au/https://westpaciq.westpac.com.au/Article/28622" target="_blank"><span>“Inflation has gone AWOL”</span></a><span>), we found it interesting that Dr Debelle took some time to outline how the reweighting of the CPI is likely to lower the current pace of inflation.</span></p>
<p><span>“<em><em>The ABS will very shortly update the expenditure weights in the CPI. Because of substitution bias, history suggests that measured CPI inflation has been overstated by an average of ¼ percentage point in the period between expenditure share updates. While we are aware of this bias, we are not able to be precise about its magnitude until the new expenditure shares are published, because past re-weightings are not necessarily a good guide. It is also not straightforward to account for this in forecasts of inflation. However, from a policy point of view, the inflation target is sufficiently flexible to accommodate the bias, given its relatively small size.</em></em><span>”.</span></span></p>
<p><span>Readers may remember that back in September we released our research that suggested the reweighting to the CPI could lower our forecasts for the annual pace of headline inflation to end of 2018 by up to 0.4ppts (see<span class="Apple-converted-space"> </span></span><a href="https://www.propertyobserver.com.au/https://westpaciq.westpac.com.au/Article/27495" target="_blank"><span>“Upcoming CPI reweighting to lower inflation”</span></a>).</p>
<p><span>Our current bottom up forecasts out to end 2019 are based on our projections for the individual components of the CPI using the current weights in the CPI. We will be updating our forecasts, using our best estimate of how we think the weights will change, in the November<span class="Apple-converted-space"> </span><em><em>Markets Outlook</em></em><span class="Apple-converted-space"> </span>publication.</span></p>
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Uncertainty and inflation: Westpac's Justin Smirk

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<p>The key economic event next week will be the release of the September quarter Consumer Price Index. </p>
<p>Westpac’s forecasts are: 0.74% for headline; 0.27% for Trimmed Mean; and 0.32% for weighted median. </p>
<p>The jump in the headline is largely driven by sharply rising electricity prices. They are expected to increase by 18% in Sydney; 5% in Melbourne; 12% in Brisbane; 10% in Perth and 20% in Adelaide. The more modest increase in Melbourne is due to the increases being spread over the September and March quarters while Perth is not on the national grid. In the other states energy prices are generally adjusted in the September quarter. </p>
<p>The direct impact of the rise in electricity prices adds 0.46 percentage points to the headline inflation measure. </p>
<p>Of course, policy is impacted by the movements in the underlying measures: the Trimmed Mean and the Weighted Median. </p>
<p>Our estimates indicate that momentum in these core measures is slowing. The six month annualised rate would slow from 2.1% three months ago to 1.7%. Underlying inflation for the first 9 months of the year would be printing 1.3%, making it likely that the actual result will settle below the mid- point of the Reserve Bank’s forecast range of 1.5%-2.5% (already 0.5% below the mid- point of the target range). </p>
<p>Key assumptions behind our forecasts include the expectation that margins in food retailing; clothing and footwear ;household goods; and recreation will remain under pressure. Health costs are expected to continue to fall while the softening in the Sydney and Melbourne housing markets is likely to take some pressure off housing construction costs (usually the largest component of the Trimmed Mean). </p>
<p>We also note that in the minutes of the October meeting of the Reserve Bank Board it was noted that "liaison with businesses had suggested that a number of firms, particularly in the retail and manufacturing sectors, were largely absorbing increases in energy costs into margins rather than passing them through to final prices.” </p>
<p>The surprise 0.6% fall in nominal retail sales in August and the downward revision to the July number (0% to -0.2%) also point to subdued price pressures in the retail sector in the September quarter. </p>
<p>The other issue challenging the outlook for inflation is the expected revisions to the weights to be used in the Consumer Price Index. The revised weights (reviewed every 6 years) are aimed at a more accurate mix of the expenditure patterns of consumers. The net impact is typically negative since consumer spending tends to rise for items where relative prices have declined and vice versa. The Australian Bureau of Statistics estimates that previous changes in weights have lowered the CPI by around 0.2 percentage points. </p>
<p>Our preliminary estimates point to a reduction in the measure of the CPI of a little more than this benchmark with the headline rate being reduced by up to 0.4% and the underlying by 0.3%.</p>
<p>So, if momentum in underlying inflation is slowing into 2018 and there is a technical need to lower the forecasts then the Bank will face a challenge in credibly maintaining its 1.5-2.5% forecast for underlying inflation in 2018 and its 2-3% forecast for underlying inflation for 2019. </p>
<p>Recall the last time the Bank was confronted with the need to significantly revise inflation forecasts. In April 2016 the Bank was expecting an underlying CPI print of around 0.6% and the result was 0.2% and internally the Bank lowered its underlying forecast from 2.5% ( 2-3%) to 1.5% ( 1-2%). It cut rates in May by 0.25%. That move was followed by another cut of 0.25% in August. </p>
<p>The result of that “pure” response to the inflation shock was to reignite house prices. Macro prudential policies , largely targeting investors, and a rate hike from the banks successfully deflated the booming housing market in 2015. House price inflation in Sydney slowed from 25% (6 month annualised) to -4.4% (April 2016).In response to the subsequent rate cuts house price inflation in Sydney lifted to 22.4% (January 2017). The recent “second round” of macro prudential policies has since slowed house price inflation in Sydney to 1.7% in September 2017. Comparable but less volatile trends were apparent in Melbourne. </p>
<p>This would be a definitive lesson for the new Governor that rigid adherence to an inflation targeting policy is likely to create disturbances in asset markets if inflation is structurally slowing. </p>
<p>We have seen central banks offshore take a similar approach by tending to look through the immediate data on inflation and pitch policy towards a medium term view (although the Bank of England seems poised to make a policy mistake). This is why we are confident that the FED will raise rates in December despite core PCE running at 1.4%. </p>
<p>Chair Yellen continues to voice confidence in the medium term “achievability” of the 2% target, with a particular aim of holding up inflationary expectations. </p>
<p>The FED also has a more difficult task in balancing risks around asset markets than we have in Australia. </p>
<p>Consider the cumulative increases in the various national house price indices since 2010. </p>
<p>Case Schiller (US): 35%; Core Logic (Australia) 43%; CREA (Canada): 68%. </p>
<p>Australia has an effective macro prudential policy approach for dealing with housing markets. Four banks control around 90% of the housing assets and there is a central regulator ( APRA). In the US, the housing market is much less concentrated with the unregulated sectors also playing a significant role. </p>
<p>The policy mix which the RBA has enunciated of targeting asset markets with macro prudential and growth/inflation with interest rates is, arguably, unavailable to the FED and policy needs to be set with an “eye” on asset markets. </p>
<p>That does not mean that the RBA would risk financial stability in the light of a stubbornly low inflation print but it does mean that raising rates while growth and inflation underperform is also not an attractive or necessary option. Recall that in the October minutes the RBA Board specifically noted that moves towards higher interest rates in other economies did not have” mechanical implications” for the setting of policy in Australia. The timing of any changes in interest rates would be dependent on developments in domestic economic conditions. </p>
<p>So, in conclusion, there is a significant risk that inflation falls short of the RBA’s current forecasts in 2018 and 2019. However financial stability risks preclude cutting rates. On the other hand raising rates in such an environment seems equally unnecessary while effective macro prudential tools are available to deal with unwelcome developments in asset markets.</p>
<p>Bill Evans is chief economist at Westpac.</p>
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