The possibility of a deeper rate cut from the Reserve Bank has gathered pace, with the possibility of deflation emerging as the latest threat from the global financial crisis.
Monthly inflation has fallen the most in six years, the TD Securities-Melbourne Institute said today.
For November, inflation dropped 0.6pc, adding to October's 0.2pc decline, as prices for petrol, holiday travel and wine edged down.
It was the largest drop in prices since TD Securities began its inflation gauge in August 2002.
"The substantial turnaround in inflation fundamentally changes the economic and policy outlook," Joshua Williamson, senior strategist at TD Securities, said in a statement.
"The previous inflation problem has been turned on its head."
Bigger cut likely
The Reserve Bank is widely expected to cut the 5.25pc interest rate when its board meets tomorrow.
Investors and economists, however, have been divided about the size of the cut.
The sharply weaker price data means investors expecting a 125 basis point, or 1.25 percentage point, cut may get the reduction to 4pc they're forecasting, according to Credit Suisse interest rate futures.
Economist foresees only a 75 basis points, taking the cash rate to 4.5pc, the lowest since May 2002.
The RBA has lopped off 2 percentage points in the past three months in an effort to draw consumers back into the market and stoke economic activity.
Inflation turnaround
"The move from high inflation to low inflation or even deflation is being experienced in many other countries at the moment," said Mr Williamson.
Annualised inflation has dropped sharply as well. For the year to November, the prices have risen 3pc, down from a 3.9pc annual pace in October.
"There has been a quite staggering turnaround in price pressures in recent months," said Mr Williamson.
"In the middle of 2008, inflation was running at an annualised pace of 5pc and now, with the domestic economy in recession and commodity prices collapsing, prices are falling at an unprecedented pace."
Commodities prices have dropped 49pc since hitting their peak in early July, according to the closely watched Reuters-Jefferies commodities index.
Fears about the future of the economy and the health of corporate profits, triggered by the financial crisis, have pushed the Australian share market down to about half of its value since November 1, 2007.
"The growing risk of broadly based deflationary pressure and the pathetically weak nature of global financial markets have encouraged us to change our forecast for Australian interest rates," said Stephen Koukoulas, Global Strategist at TD Securities.
"So extreme is the news on inflation and the recent global economic and market trends, we now anticipate the RBA having to lower the cash rate to 2.5pc by the middle of 2009, starting with a move of at least 100 basis points at the RBA Board meeting tomorrow."
Economists will learn more how much commodity prices are contributing to the Australian economy when third quarter gross domestic product growth figures are released on Wednesday.
Analysts expect annualised GDP growth to drop to 1.8pc from 2.7pc in the second quarter.
Weakness evident
Signs of sagging prices come on the same day a drop in new orders pushed Australian manufacturing activity to an all-time low in November.
The Australian Industry Group performance of manufacturing index plummeted 7.7 points to hit 32.7 in November, from 40.4 points in October, the sixth consecutive month of scores below 50, which separates expansion from contraction in the gauge.
November's result was the lowest since the index began in 1992, the AiG said.
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