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Reserve Bank governor Glenn Stevens is considering cutting interest rates as soon as Tuesday following news that Australia's official inflation rate has fallen to just 1 per cent.
The new long-term low is well below the Bank's target of 2 to 3 per cent and the lowest this century.
In the past year, a raft of prices have actually fallen, including bread (down 2 per cent), milk (down 1.3 per cent), coffee (down 4.6 per cent), wine (down 2.6 per cent), books (down 1.3 per cent), men's clothing (down 1.1 per cent), electricity (down 2 per cent), cars (down 3 per cent) and petrol (down 11.6 per cent).
Others have stayed still or barely moved. Rents have climbed just 0.7 per cent over the year to June, bus and train fares just 0.1 per cent, and women's clothing not at all.
"Consumer price inflation hasn't been a problem for nearly two years despite a significant depreciation of the Australian dollar," said BIS Shrapnel senior economist Kishti Sen. "Increases in import prices have largely been offset by deflation in costs of intermediate inputs including freight costs. As well, weak domestic demand has kept a lid on wages."
A cut in the Bank's cash rate from 1.75 per cent to 1.5 per cent would be the second this year. If fully passed on, it would bring down the rate on a standard variable mortgage from 5.4 to 5.15 per cent and the rate on a discounted mortgage from 4.6 to 4.35 per cent. It would cut the typical repayment by $44 per month.
Those at Tuesday's board meeting arguing for a cut will point out that employment is growing too weakly to provide jobs to new entrants to the labour force. Over the past six months, employment has climbed 43,000 while the number of Australians looking for jobs has climbed to 51,2000. A switch to part-time jobs means there were fewer hours worked in June than in January.
On Monday, Treasurer Scott Morrison committed himself to a "laser-like focus" on reducing the deficit, suggesting that the government has little room to move on boosting the labour market. Those in favour of a rate cut will argue that it would could boost employment and economic growth without breaching the Bank's inflation target.
Those reluctant to cut will argue that Sydney and Melbourne house prices have climbed 6.8 and 3.5 per cent in the past three months and point to the danger of stoking further house price rises by boosting the amount homeowners can borrow.
The August meeting is Governor Stevens' second-last before he is replaced by his deputy, Philip Lowe. He would have an opportunity to explain a cut when he gives his farewell speech to the Anika Foundation and Australian Business Economists in Sydney a week later.
Of particular interest to the board will be so-called "tradables" inflation, which measures changes in the price of products that can be exported and imported. It came in at zero for the year to June. Non-tradables inflation, which measures change in the price of goods and services that can only be sold in Australia, came in at just 1.6 per cent, well below the Bank's target band.
The Reserve Bank's measures of so-called underlying inflation averaged 1.5 per cent.
Peter Martin is economics editor of The Age.
