Australia's annual inflation rate fell to 2.1% in May, down from 2.4% in April and marking the lowest level since October 2024. This softer-than-expected result is further fuelling market expectations that the Reserve Bank of Australia (RBA) will reduce interest rates in July, as inflationary pressures continue to ease across key sectors of the economy.
The latest Consumer Price Index (CPI) data, released on Wednesday by the Australian Bureau of Statistics (ABS), shows broad-based moderation in inflation, with food, housing and energy costs leading the way. The cooling inflation environment is likely to provide the RBA with the flexibility it needs to support economic growth, suggesting that further rate cuts may be on the horizon as the bank shifts towards a more accommodative policy stance.
Key contributors to the May CPI drop
The 2.1% annual CPI rise in May was driven by increases in food and housing costs, though both sectors showed signs of easing. Food prices rose 2.9%, though this was down from April's 3.1% rise. Fruit and vegetable prices increased 2.8%, but this was significantly lower than April's 6.1% rise.
Non-alcoholic beverage prices rose 5.2%, with coffee and tea prices climbing 8.3%, driven by weather-related disruptions in key coffee-growing regions.
Housing costs rose 2% year-on-year, slower than April's 2.2% increase. Rents rose 4.5%, moderating from April's 5% growth, reflecting more stable vacancy rates and slower demand in capital cities.
Electricity prices fell 5.9%, improving from a 6.5% drop in April, with the impact of government rebates more pronounced in May.
Core inflation moderates further
Core inflation, measured by the annual trimmed mean, the RBA’s preferred measure, slowed to 2.4% in May, down from 2.8% in April. This marks the lowest annual rate since November 2021, suggesting that underlying inflationary pressures are continuing to moderate, according to IG analyst Tony Sycamore.
“This has taken core inflation below the RBA’s 2-3% target band, reinforcing our call for the RBA to loosen monetary policy further and cut rates by 25 basis points to 3.60% at its board meeting in July,” he said.
The CPI excluding volatile items and holiday travel rose 2.7%, down slightly from 2.8% in April, indicating that broader inflationary trends are cooling across a wider range of goods and services.
Adding to the case for rate cuts
The softer-than-expected CPI result has prompted analysts to reassess their forecasts for the June quarter, with several highlighting the potential for an RBA rate cut.
"We are convinced that the RBA needs to cut in July to safeguard growth as inflation is clearly out of their way now: the trimmed-mean CPI at 2.4% is the lowest since November 2021,” said Krishna Bhimavarapu, APAC economist at State Street Global Advisors.
“We are tracking faint consumption and growth in Q2, and hence, the Bank may do well to frontload the cut to July. However, we think the cash rate might still end the year at 3.10%, as the RBA might take a pause after frontloading cuts."
Westpac senior economist Justin Smirk also noted the downside risks to current CPI estimates.
“The Monthly CPI Indicator gained 2.1% in the year to May, softer than Westpac’s and the market’s median estimate of 2.3%,” he said. “We estimate that Trimmed Mean inflation in the June quarter will moderate to 2.8%/yr and ease further to 2.7% in September. Our more detailed review of the May Monthly CPI Indicator suggests there is a downside risk to our Trimmed Mean forecast and our current June quarter headline CPI estimate of 1.0%qtr/2.4%yr.”
Josh Gilbert, market analyst at eToro, pointed out that the CPI result is likely to add further momentum to expectations for a rate cut in July.
“Australia’s inflation continues to fall faster than expected, and today’s softer-than-forecast reading of 2.1% could be the final piece of the puzzle for the RBA to cut next month,” he said, adding that falling electricity prices and slower rental growth are “key signs that cost-of-living pressures are starting to ease”.
“This is exactly the kind of inflation print the RBA has been waiting for.”
Small businesses hopeful for more relief
Meanwhile, Employment Hero CEO Ben Thompson pointed out the relief for small businesses but said more is needed.
“CPI coming in lower than expected this month is exactly the result small businesses needed. Easing inflation brings hope for rate cuts and genuine cost relief — but it doesn’t mean SMBs are out of the woods yet,” he said, noting that wage growth is still more than double inflation, while hours worked are flatlining and compliance demands increasing.
“Lower inflation is a meaningful step forward, but some challenges still remain for business owners.”