[CommSec Research]Fruit prices plunge; Manufacturing shrinks; $A soars

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Fruit prices plunge; Manufacturing shrinks; $A soars

Weekly petrol prices; TD Securities monthly inflation gauge

• Inflationary pressures ease. The TD Securities-Melbourne Institute monthly inflation gauge rose by 0.3 per cent in April or 3.6 per cent over the year. The trimmed mean (underlying rate) rose by 0.2 per cent in April with the annual rate easing to a seven-month low of 2.3 per cent.
• Fruit & veg prices slump. According to TD Securities, fruit and vegetable prices fell by 12 per cent in April after rising by 11.3 per cent in March.
• Manufacturing contracts. The Performance of Manufacturing index stood at 48.4 in April. Any reading below 50 indicates that the manufacturing sector is contracting.
• Aussie dollar soars. The Aussie dollar hit a 29-year high (since January 27 1982) of US$1.10 this morning, putting more pressure on manufacturers, exporters, tourist operators and even investors.

What does it all mean?

• The Reserve Bank Board can rest easy – inflation remains under control. The latest monthly inflation gauge shows that the key underlying rate of inflation is still in the lower end of the Reserve Bank’s 2-3 per cent target band.
• The recent spike in the headline rate of inflation was wholly due to higher fruit and vegetable prices and the higher cost of petrol. But there are now positive signs that headline inflation has peaked. Fruit and vegetable prices soared by over 11 per cent in March, but they fell just as spectacularly in April, slumping by 12 per cent.
• The latest update on prices shows how misguided some commentators have been on inflation, and the implications for interest rates. Some have believed that the Reserve Bank should be rushing to lift rates, despite the fact that the central bank said it would look-through the flood-induced lift in fruit and vegetable prices.
• The simple fact is that underlying inflation remains tame because consumers aren’t spending. Add in the fact that the high Aussie dollar is causing pain to manufacturing and that house prices are slumping, and it is clear that there is no reason for the Reserve Bank to touch interest rates.
• A higher Aussie dollar is considered a positive development. But clearly that’s not the case for manufacturers, exporters, tourist operators and even investors. Foreigners own 40 per cent of Aussie shares, and as the Aussie dollar continues to soar, this causes fund managers to become over-weight Aussie equities. As a result, the high Aussie dollar is causing foreign investors to trim holdings on Aussie shares and place on hold future purchases of our equities.

What do the figures show?

Inflation gauge:

• The monthly inflation gauge rose by 0.3 per cent in April after lifting by 0.6 per cent in March and by 0.2 per cent in February. The annual rate of inflation eased from 3.8 per cent to 3.6 per cent.
• The underlying rate (trimmed mean) rose by 0.2 per cent in the month, dragging the annual rate to a seven-month low of 2.3 per cent.
• Excluding volatile items like petrol and fruit & vegetables, the inflation gauge rose by 0.5 per cent in April with the annual rate edging up from 2.1 per cent to 2.2 per cent.

• TD Securities noted that “Contributing most to the overall change in April was a seasonal price rise for health services, as well as increases in overseas holiday travel and accommodation prices, and a small rise in automotive fuel. These were offset by a substantial fall in fruit and vegetable prices, and smaller falls in audio, visual and computing, and household supplies. The price of fruit and vegetables slumped by 12 per cent in April, following the 11.3 per cent rise in March. The price of rent rose 1.2 per cent in April, the highest monthly increase recorded since January 2009.”

Performance of Manufacturing (PMI):

• The PMI rose by 0.5 points to 48.4 in April. However any reading below 50 signifies that the manufacturing sector is contracting.

• Seven of the 12 manufacturing sub-sectors reported declines in activity in April led by transport equipment and textiles.

What is the importance of the economic data?

• The monthly Performance of Manufacturing Index is the Australian equivalent of the US ISM manufacturing gauge. The PMI is one of the timeliest economic indicators released in Australia. The PMI is useful not just in showing how the manufacturing sector is performing but in providing some sense about where it is heading. The key ‘forward looking’ components are orders and employment.
• The TD Securities/Melbourne Institute Monthly Inflation Gauge is designed to “provide a timely and accurate monthly measure of inflation in Australia”. The Bureau of Statistics only releases the Consumer Price Index on a quarterly basis.

What are the implications for interest rates and investors?

• It is right for the Reserve Bank to be watchful on inflation, but it would benefit no one if it was to over-react to factors outside its control by lifting interest rates.
• It is clear that underlying inflation remains solidly under control and there are also signs that headline inflation may have peaked with fruit and vegetable prices sliding in April.
• Manufacturing is going backwards, and it is highly likely that equivalent gauges for the services and construction sectors to be released this week will show similar results. We expect the Reserve Bank to stay on the interest rate sidelines until at least August.
• The Aussie dollar could easily reach US$1.15 in the short-term given the benign neglect for the greenback by US policymakers.
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