A favourable international price environment is likely to be a key factor in preventing Irish inflation from spiralling out of control in the months ahead, economists say. They expect inflation to accelerate again in August after dipping to 2.7 per cent in July on an annual basis from 2.9 per cent in June. The unexpected monthly fall of 0.3 percent was the result of the summer sales.
But the inflation rate is expected to peak fairly shortly, at levels just above 3 per cent before ending the year below that level.
The Asian crisis, and its spread to other regions such as Eastern Europe and South America, is exerting a significant deflationary impact on the world economy while the weakness of commodity prices oil prices hit a 10-year low earlier this week is also helping to prevent upward pressure on global prices.
"With business surveys in Asia, the US, Germany and Britain becoming increasingly gloomy, there appears little likelihood of an early turnaround and, consequently, world inflation looks set to be very subdued for some significant time to come," said Mr Austin Hughes, economist at Irish Intercontinental Bank.
"This external environment represents a formidable barrier against the risk of a surge in Irish inflation into next year."
Mr Oliver Mangan, bond economist at AIB Group Treasury, has revised his forecast for the average rate of inflation this year down to 2.5 per cent from 2.7 per cent following the release of the better-than-expected July data yesterday.
He believes inflation is likely to accelerate again next month for a variety of technical reasons. These include the abolition last August of local authority service charges, which cut 0.25 per cent off the housing component of the consumer price index, and weak potato prices which fell by 0.1 per cent.
This year, however, the price of potatoes has gone up because of the bad summer weather.
"I would expect inflation to rise to 3.1 or 3.2 per cent in August or September but to decline over the balance of the year as the rise in seasonal food prices unwinds and mortgage rates begin to decline," Mr Mangan said. The impact of lower interest rates will continue to make itself felt next year while the recent recovery in the Irish pound, which has gained some 4 per cent from its March lows against sterling, should also help keep prices subdued in 1999. Davy Stockbrokers is forecasting an average inflation rate of 2.1 per cent next year, down from 2.9 per cent this year.
An improved inflation outlook will be welcome news for the Central Bank which should feel more comfortable cutting interest rates to the levels prevailing across the euro zone against such a backdrop.
However, despite the recent downward drift of Irish money market interest rates, few analysts expect the Bank to cut rates before September or October with many expecting an Irish rate reduction to coincide with cuts in other EMU states such as Italy.
"It still seems that chronological rather than environmental factors are driving Central Bank thinking on the timing of the first official cut," said Mr Hughes.
Meanwhile, the better inflation picture should also help to ease concerns among our European partners that the economy is overheating, making it easier for the Government to deliver tax reductions in the next Budget.
Welcoming the surprise drop in July inflation, the Tanaiste, Ms Harney, said it reinforced her view on the need to produce a radical tax cutting package, aimed at the lower paid, in the December Budget. An improving inflation performance should also help to ensure that wage inflation remains subdued.
