One of the key themes of the last 12-15 months has been inflation, it’s impact on the economy and the Reserve Bank of Australia’s (RBA) response by way of monetary policy. After pausing official rates in April, the RBA has opted to lift rates by 25 basis points this month of May. Importantly, the RBA has again acknowledged that inflation has passed its peak – so this is reassuring news. However, inflation was 7% for the year to March 2023, and this sits well outside the RBA target of 2% to 3% per year. The May increase was deemed warranted to try and get inflation back within this range within a reasonable timeframe.
Again, it’s very reassuring that the RBA has confirmed its view that inflation is passed its peak. However, I wanted to talk about the difference between following rolling annual inflation, versus tracking quarter on quarter inflation.
Inflation is measured by the change in Consumer Price Index (CPI) between two dates. The 12-month change is most often quoted – and that’s the figure of 7% recently published by the Australian Bureau of Statistics (ABS) and quoted by the RBA. It’s simply the change in CPI that occurred between March 2022 and March 2023. As common and useful as this statistic may be, it doesn’t tell the full story. Specifically, when significant price changes occur in a very short period, the effect of making a full year calculation means that sudden changes in either direction are averaged out over 12 months. What this effectively means is that the 12-month number doesn’t always highlight the very latest of what’s happening on the ground, in businesses, shopping centres, labour markets, energy markets and all the markets that drive prices. It means that spikes in the data can continue to skew the annual statistic for up to 12 months after the spike occurred.
Last year saw significant inflation, all the way to December 2022. These high inflation numbers will continue to skew annual figures until November 2023, after which point 2022 numbers will fall out of the calculation.
The below chart plots the frequently published annual CPI growth figure, on a rolling basis in yellow, against the RBA inflation target of 2%-3% in shaded red. It also plots quarter on quarter CPI changes in navy, against the RBA target inflation band, adjusted for quarterly figures, in shaded teal.
Looking at annual figures in yellow, at 7%, the published annual inflation figure in March is 2.3 times the upper band of the RBA target inflation range. If we look at the quarterly figures in navy, the March 2023 figure of 1.9% is still outside the RBA target band, but not by the same degree.
If we compare the March 2023 inflation numbers to 2022, we can see that the March 2023 annual figure in yellow remains significantly higher than the annual figures published in March and June 2022. If we focus on the quarterly inflation figures in navy, we can see that inflation for the quarter ending March 2023 was lower than every quarter in 2022. That is an entirely different trend than the one implied by the annual numbers in yellow.
Now, let’s compare the recent drop in inflation numbers, to where inflation was over a year ago in 2021. Annual inflation fell from 7.8% reported in December 2022, to 7% reported in March 2023. However, this drop off is dwarfed by the fact that the March annual figure is still twice as high as the 3.5% annual inflation figure published in December 2021. Looking at the quarterly figures in navy, the March 2023 figure of 1.4% is closer to the December 2021 figure of 1.3%, than it is to December 2022 figure of 1.9% – an entirely different trend is implied.
The relationship between these trends is even more stark when looking at inflation data from the construction sector specifically.
The chart below shows that building construction output cost growth peaked in June 2022, and has fallen quite substantially since then:
While this is promising news, comparing the change in annual figures to the change in quarterly figures is quite eye opening.
Focussing on the yellow annual data points, we can see the statistic peaked in September 2022 and has had a reasonable drop off since then. Looking at the quarterly numbers in navy, we see the quarterly numbers peaked in June 2022, and the March 2023 figure of 1.1% is less than one third of the June 2022 figure of 3.8% – a much bigger drop than what is implied by annual numbers.
We must go back to December 2021 (7.8%) to find an annual inflation figure that is lower than the March 2023 figure (9.4%). The annual figure for March of 9.4% is higher than the December 2021 figure of 7.8%. The opposite is true looking at quarterly numbers. Quarterly inflation has dropped significantly from 2.9% in December 2021, to 1.1% in March 2023. These trends are completely contrasting. On the one hand, annual numbers increased significantly between December 2021 and March 2023, on the other hand, quarterly figures fell by significantly more than half, over the same timeframe.
On a quarterly basis, we have to go back two years, to March 2021, to find a figure lower than the figure reported in March 2023.
At Trilogy Funds, we are pleased that despite the challenges that the recent inflationary period has presented the industry, our loan book has continued to hold its value and deliver consistent monthly income to our investors. Going forward, the falling rate of inflation is good news for property developers, because it puts them in a better position to forecast costs and plan their investments and projects.
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