What economic surprises can tell us about inflation

Inflation is proving stubborn, but the jobs market is showing signs of weakness. For Australians following the interest rate outlook, the economy is sending mixed messages.

CBA’s Macro Surprise Index (CBAMSI Index) offers a way to bring those signals together. Rather than looking at economic figures in isolation, it measures how they compare with expectations.

Commonwealth Bank Director Fixed Income and Interest Rate Strategy Dr Hamid Yahyaei says those surprises can also provide clues about when the Reserve Bank of Australia’s inflation forecasts may need a rethink.

Looking beyond the headline numbers

The idea behind the Macro Surprise index is straightforward: what matters is not just what the latest economic data shows, but whether it what it reports caught economists off guard.

The index tracks the gap between actual results and economists’ collective forecasts. It also gives more weight to surprises that have a greater influence on Australian interest rate markets, helping distinguish the developments that matter most. 

It’s therefore a measure of the unexpected, rather than just  a scorecard showing whether the economy is doing well or badly.  
 
Higher-than-expected inflation, for example, can push the index upwards even though rising prices are not welcome news.

Inflation and jobs are pulling in different directions

A research note published by Commonwealth Bank economists following the RBA November meeting showed the Index to be sitting just below zero. 

Stronger-than-expected inflation was being offset by weaker labour market signals, leaving upward and downward surprises broadly balanced.

“Inflation is still too high and above target, but there are signs that the Australian economy is slowing”, Yahyaei said. A reading near zero therefore does not mean inflation is no longer a concern, but it implies competing surprises are largely cancelling each other out.

When surprises become a warning sign

The research also examined whether the index could help identify when inflation forecasts were more likely to miss the mark.

The analysis looked at the index’s average level over the three months before each RBA forecast. Yahyaei said large upward surprises were associated with inflation readings coming in further above the Bank’s forecasts around a year ahead, with downside surprises associated with inflation readings below the RBA’s forecasts over the same period. Higher index readings were also linked to a greater likelihood of upward revisions to inflation forecasts.

The relationship was particularly visible during the pandemic, when sudden changes in the economy produced unusually large surprises and forecast misses. Those errors have since become smaller, although inflation has continued to exceed the RBA’s forecasts more regularly than before the pandemic.

“Forecasting is a tough game for both the RBA and market economists”, Yahyaei said.

For people watching the interest rate outlook, the takeaway is to look beyond a single forecast. A sustained run of upward surprises could signal a risk that inflation proves more persistent than expected. The index offers a way to assess that risk, but not a guaranteed guide to the next rate decision.

You can find Hamid’s full research note here.