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Financial markets and commentators eagerly anticipated this week’s June quarter CPI data after the RBA’s surprising cash rate hold in July. The data provided strong evidence of a broad-based decline in inflation, and so the RBA can be comforted that the inflation genie is back where it belongs.
Headline inflation slowed from 2.4% in March to 2.1% in June, driven by falling inflation across both goods and services categories. Falling fuel prices, and lower inflation across food and new home-building drove the decline in goods inflation. Importantly, market-based services inflation, which had been stubbornly elevated at around 4% p.a., slowed sharply in the first half of this year to below 3%, as rents and insurance eased. The expanding breadth of categories experiencing lower inflation suggests it is now sustainably tracking toward the midpoint of the target band. We monitor the proportion of categories with inflation running at or below the midpoint of the RBA’s target band, and this has risen to 57%, a level it averaged between 2010-2015 when inflation consistently averaged 2.5%.
The fall in underlying inflation to 2.7% in the June quarter from 2.9% in March has almost certainly locked in an August rate cut from the RBA. The 0.6% rise in the quarterly trimmed mean CPI was slightly below market and QIC expectations but in line with the RBA’s May forecasts. Bond markets rallied on the news and the pricing for an August rate cut shifted to 100%. Lower interest rates weighed on the $A which fell by over 2% this week on diverging monetary policy expectations, after the US Federal Reserve kept rates on hold at their meeting and gave few hints of the timing of potential rate cuts.
With the RBA likely to be comforted that inflation is now under control, does this mean the cost -of-living crisis is over?
The answer to that question probably depends on who you ask.
For a small group of households, self-funded retirees for example, the answer would probably be, "What cost of living crisis?". This cohort has experienced increases in both income and wealth that has left them well-placed to shoulder the burden of higher prices. Many self-funded retirees have cash invested in term deposits, which earned higher returns as the RBA raised the cash rate. They typically own their own home, which has appreciated in value by around 20% over the last four years, and they also own assets in superannuation which have delivered strong returns.
However, for the greater majority of households, the answer would likely be quite different. Households who have taken out a mortgage in the last few years would probably tell you that the cost-of-living crisis is far from over. Over the last few years, these households faced:
While real wages have started to increase and the Stage 3 tax cuts in July last year gave back some of the bracket creep, the real wage gains to date have only been modest and this cohort remain in a weaker financial position than they were four years ago. Modest real wage gains are expected to continue, but cuts to mortgage repayments will be critical to reducing the cost-of-living and restoring spending power for this cohort. Despite the fall in interest rates since February, many households have, so far, chosen to maintain mortgage repayment levels and reduce debt rather than increase spending.
We can quantify the difference in the cost-of-living faced by these disparate cohorts. In addition to the Consumer Price Index, which is the focus of financial markets and the central bank, the ABS also produces Living Cost Indexes (LCIs) which measure the living expenses of various household types. The data show that the living costs of employee households have risen by over 7 percentage points more than self-funded retirees since mid-2021. This is primarily because employee households include a large share of mortgage holders, and mortgage costs have almost doubled.
The high cost-of-living faced by employee households has weighed on consumer spending. Data from CommBank IQ show real spending has been supressed for the age cohorts with the largest share of mortgages, predominantly the 30-39 age group, but also the 40-49 age group. These cohorts have not only reduced essential spending but have cut back even further on discretionary spending. In contrast, older cohorts (60+ years) have increased spending in real terms and shifted towards discretionary spending (e.g. travel and eating out). This willingness to spend on discretionary items highlights the relatively strong financial position of self-funded retirees, who are in the minority but likely to remain a support for household spending.
To date, we have seen a relatively tepid recovery in aggregate household spending. The retail sales figures, also released this week, indicate households remain cautious in their spending decisions but are willing to spend up to bag-a-bargain when discounts are offered during sales periods. This is what we would expect while mortgage households remain financially constrained. As we move through the second half of this year and into 2026, with rate cuts from the RBA being gradually passed through to mortgage holders, we would expect to see an easing in the severity of this important cohort’s assessment of the cost-of-living. It is only then that aggregate spending may start to recover more meaningfully, and we can be more confident calling an end to the cost-of-living crisis.
