There has probably never been such a time when very small changes in inflation matter so much to the wellbeing of the economy, BNZ senior economist Stephen Toplis said yesterday.
With the Reserve Bank fixated on getting annual consumer price index (CPI) inflation back to the middle of its target band, and headline inflation failing to even escalate to the lower edge of the 1% to 3% band, all eyes would be on the June quarter CPI due on July 18.
The CPI would be used to not only monitor the bank's progress but, more importantly, be searched for clues as to the way ahead for consumer prices, interest rates and the exchange rate, he said.
"Alas, we think little light will be shed by this particular release. Headline inflation looks set to be near enough to Reserve Bank expectations to be of little significance.''
Unless the data could demonstrate what the future path of the New Zealand dollar was, what the elasticity of domestic prices to that path was, where commodity prices were heading and what tightening domestic demand conditions would do to non-tradeables inflation, it would be of little use, Mr Toplis said.
The BNZ was picking consumer prices rose 0.7% in the quarter.
At face value, that might seem like a big boost to prices but in reality, it was not.
About 60% of the increase could be attributed to a spike in petrol prices for the quarter.
That was unlikely to be repeated in future quarters.
Current petrol prices were 2.1% below their second-quarter averages.
Also, there were some seasonal factors tending to give the second-quarter CPI a slight upward bias, he said.
The 0.7% increase for the quarter was also the same reading as for the year.
It would be the eighth consecutive quarter annual inflation would have fallen below the lower bound of the Reserve Bank's target.
It was hardly a reason for people to talk of resurfacing inflation.
"What we do know is the headline reading will provide another opportunity for Reserve Bank critics to lambast it for failing to meet its objective. We have never been in this camp. Nor are we ever likely to get there.''
The BNZ continued to believe the ongoing weakness in the CPI would push the Reserve Bank towards unnecessarily reducing its cash rate, which was already at a dangerously low level for the economy, to an even lower low, Mr Toplis said.
The biggest deflationary pressures in the New Zealand economy emanated from offshore, thanks to a combination of: positive supply shocks, excess capacity globally; falling commodity prices; technological changes; and shortened supply changes.
Plus, the strength of the New Zealand dollar would also be creating deflationary tendencies and there was little anyone could do about it, he said.
Interest rate cuts did not seem to be having much of an impact, interest rate analysis showed the dollar to be overvalued but investors seemed unperturbed, the New Zealand economic story was a good one by international comparison and the country's trading partners seemed hellbent on sabotaging any attempt to lower the dollar.
Among other problems were the Federal Reserve's refusal to lift interest rates, the British pound plunging after the Brexit vote, the euro being wounded by the same vote, the Australians creating more political uncertainty and the Chinese sneaking in a quiet devaluation of its yuan, Mr Toplis said.
"It's hard to get your trade-weighted index lower when all this is going on.''
CPI inflation would likely edge higher to meet the middle of the Reserve Bank's target band by mid-2017, but it was heavily reliant on assumptions the dollar drifted lower.
That might be a "heroic assumption''.
The strength of the dollar was a nightmare for the central bank's forecasts, he said.
The Reserve Bank had assumed the TWI would average 71.7 across the September quarter.
It was sitting 6.8% higher at 76.45 at present.
That would normally demand several interest rate cuts, in addition to the one already pencilled in by the Reserve Bank, to offset the deflationary pressure such an overshoot would generate.
