Stephen Miller
At the time of the release of the September quarter consumer price index (CPI), I suggested that an annual increase of 5.2 per cent in the annual trimmed-mean (TM) inflation rate made a policy rate rise from the Reserve Bank of Australia (RBA) on Tuesday 7 November a near certainty.
The October RBA Board meeting minutes revealed that the Board “has a low tolerance for a slower return of inflation to target than currently expected.”
Given that the RBA forecast was around 4.8 per cent, it would be extremely difficult to reconcile that “low tolerance” with the absence of any policy rate hike.
RBA Governor Michele Bullock has since stated that “the Board will not hesitate to raise the cash rate further if there is a material upward revision to the outlook for inflation.” Despite Treasurer Chalmers protestations to the contrary, the September quarter CPI revealed that “material” benchmark has been more than met.
Chalmers intervention may have the perverse effect of solidifying the prospect of a policy rate hike. Were the Board to eschew such a hike the optics around their independence would look compromised.
Not only is a policy rate hike entirely appropriate in the wake of the exhaustion of the RBA’s hitherto (too) high (a) tolerance for an elongated return of inflation to the target, but it is also given some extra urgency by some gathering inflation storm clouds on the horizon.
There is a widespread misnomer that inflation is simply down to external price shocks or petroleum prices. (Treasurer Chalmers sometimes appears to labour under the same misnomer). It is not! It is much broader than that. It is to avoid confusing large relative price movements with generalised inflation that the RBA focuses (properly) on the “trimmed mean” measure.
There is a similarly widespread misnomer that the policy rate is “high”. It is not! Prior to 2008, the policy rate had never been as low as it is now. The period since was the exception, spawned as it was by first the Financial Crisis and then the Pandemic. It is now clear that the historically high level of monetary accommodation in the wake of the Pandemic went on for way too long and that central banks everywhere have been way too tardy in its withdrawal. That is a key reason behind the current inflation and its persistence.
Central bankers around the world have remarked on the “stickiness” of service price inflation. The globalisation of labour supply (after the fall of the Berlin Wall and the “export” of labour from large emerging market economies such as China and India) is abating; globalisation of goods markets is in retreat as governments everywhere introduce protectionist measures under the guise of “industrial policy” and “national champions”; domestic regulation of markets is increasing in scope (leading to upward price pressures); and baby boomer workforce participation is declining (limiting labour supply and lifting wages).
There are some other purely domestically driven troublesome inflation portents. Recent changes in the regulatory environment in Australia, particularly in relation to the wage-setting and the industrial relations framework, potentially exacerbate an already stubborn inflation problem. By weakening the link between productivity and nominal and real wage growth those measures run the risk of entrenching higher inflation in Australia compared to elsewhere in particular.
The Governor noted in her Statement following the RBA October Board meeting that “wages growth … is still consistent with the inflation target, provided that productivity growth picks up”. (My emphasis). That increasingly looks like a big “if”!
Wage increases are digestible in times of robust productivity growth. However, productivity growth in Australia is abjectly poor and even with relatively modest wage growth, unit labour cost growth (the most relevant labour cost gauge for inflation) is at over 7 per cent per annum.
The interplay between productivity and wage growth are domestic developments upon which the RBA will cast a keen eye.
In the meantime, expect the RBA to reveal hawk talons on 7 November.
They may be on show for some time.
By Stephen Miller, investment strategist
