Calls for the Reserve Bank to cut its official cash rate next week grew louder yesterday after inflation remained low and dairy prices slumped significantly in the latest auction.
ASB senior economist Jane Turner said inflation was in line with the Reserve Bank's expectations and close to the ASB forecast.
''Nonetheless, annual inflation of just 0.3% is well below the Reserve Bank's target range of between 1% and 3%.
''Flirting so close to deflation, there is little room for error and a key area of concern for the Reserve Bank would be the weaker-than-expected non-tradeable inflation result.''
Economic growth was likely to be weaker this year than the Reserve Bank and markets previously expected, she said.
Also, there was evidence of strong competition in key sectors.
As a result, it was likely non-tradeable inflation would remain subdued, reinforcing the case for further rate cuts this year.
ASB expected the Reserve Bank to cut the OCR by 0.25% next week, in September and October to take it to 2.5%, Ms Turner said.
Details of the consumer price index, released by Statistics New Zealand, included a sharp 13% fall in domestic airfares.
ASB expected additional falls to come as Jet Star entered into regional air routes at the end of the year - an area where Air New Zealand had faced little competition.
Communications prices also fell, reflecting price falls and better value plans.
Strong competition and rapidly changing use of mobile technology had contributed to deflation in this sector in past months.
Providing some offset, housing construction costs were strong, largely led by Auckland pressures.
Council of Trade Unions economist Bill Rosenberg said housing costs had driven the latest inflation results.
Housing costs went up 3.4% in Auckland and 3% in Canterbury during the year.
Nationally, rents went up 2.3% and home ownership (newly built homes excluding land) was up 5.3%.
Without an increase in housing, energy and property costs, inflation would have been -0.4% for the year.
''This reinforces the need for action on housing in Auckland. However, general price inflation remains low and, along with falling dairy prices and flattening rebuild activity in Canterbury, means the Reserve Bank should continue to lower interest rates alongside specific policies to address house price inflation and speculation,'' he said.
Ms Turner said Canterbury housing pressures were ''clearly'' coming off the boil with construction costs and rents slowing.
''The Reserve Bank won't be too concerned by construction cost inflation. It has been elevated for some time and had limited spill-over into broader inflation pressures.''
The risk of deflation was being reduced by the stabilisation of core inflation measures and inflation was expected to lift over the next two years, although the extent of the lift would be modest, she said.
Inflation would remain in the bottom half of the Reserve Bank's target band over the next two years.
Yesterday, market pricing had fully built in a 0.25% cut for the July OCR announcement next week.
The extent to which the market reacted would depend on whether the overall tone of the short statement next week by the Reserve Bank left the door open for further cuts on top of a July cut, Ms Turner said.
A clear easing bias and narrowing of interest rate differentials would also keep the dollar under pressure and ASB expected it to fall further to US64c in the three months ended September.
Forsyth Barr broker Suzanne Kinnaird said the New Zealand economy was facing some challenges.
They included the ongoing decline in global dairy prices, a fading impetus from the Christchurch city rebuild and flat-to-weaker economies in China and Australia.
Business confidence had slipped into the red, the first time in negative territory since the major Christchurch earthquake.
''Against this backdrop, underlying inflation is likely to stay at the lower end of the target band for the foreseeable future.''
At a glance
• June quarter inflation up 0.4%.
• Annual inflation up 0.3%.
• Reserve Bank inflation target: Between 1% and 2%.
• Calls for the Reserve Bank to cut OCR next week.
