Rate rise hangs on imminent inflation figures

The coming week is key for the chances of a further interest rate rise with the release of the first quarter inflation figures on Tuesday. The key question is; has the undoubted pick-up in economic activity since late 2006 fed through to rises in the core level of prices, or "underlying inflation"? There are three possible answers, only one of which would lead to an interest rate rise in ten days time at the Reserve Bank's May meeting. One is that core or underlying inflation has edged up again in step with the strong jobs market, healthy consumer spending, robust business investment and some recovery in the housing market. If it does turn out to be the case, we'll see an interest rate rise in early May. But this is not a foregone conclusion. Two, is that the stronger economy this year has yet to feed through to inflation but will do so over coming months. In this case, the RBA will want to wait for more signs that inflation is on the up before raising rates, but we could probably expect a rise sooner or later. Three is that despite the stronger economy, price rises don't eventuate at any fundamental, across-the-board level meaning that inflation is being contained. This is a quite possible scenario. In the last few years, the economy has proven very resilient to inflation pressures considering the strong economic growth, capacity constraints and oil price spikes. But can it keep it up? For the moment, all hangs on Tuesday's official inflation figures, and if the quarterly rise in the core measure (discounting for volatile, one-off price rises) is more than 0.7 per cent, we can expect rates to be raised. If it's less, probably not, and if it is 0.7 exactly then it's touch and go. Any clues emerging this week as to what the result might be were thin. The Westpac-Melbourne Institute index of inflationary expectations for March shows consumers and business expect that headline inflation is about 3.8 per cent at the moment, and remaining in the high range. This doesn't tell us a great deal except that if we all expect inflation to stay high, it's one factor suggesting it actually will. Consumer sentiment edged downward slightly in April, probably due to all the talk of higher interest rates being imminent. But consumers have shown their resilience over the past year and confidence will bounce back next month if no interest rate rise eventuates. Even if it does, the dent to consumer sentiment is likely to be short-lived. Car sales rose 1 per cent in March which adds to a distinct upward trend over the last six months. Car sales are generally a good barometer for economic health and underline the fact that the economy is motoring along in the first half of 2007.