New RBA chief outlines thoughts on inflation
The Reserve Bank of Australia’s new Governor Philip Lowe gave his first speech last week at a Citibank conference.
The speech, titled “Inflation and Monetary Policy”, outlined his views on inflation, including three factors that have contributed to a low inflation environment in Australia. These are:
- Slack in the global and domestic economy.
- A self-reinforcing dynamic for households where the significant decline in headline inflation as oil prices collapsed led to lower future inflation expectations. This may have led many workers to argue for smaller wage rises.
- A change in the perceived pricing power of workers and businesses, which is perhaps a function of the globalisation of markets that has increased competition.
These factors are still working to hold inflation down, and Lowe thinks this will continue for a while yet. But, he does not believe Australia has drifted into a permanent low inflation world, as has been the experience in Japan, for example.
The third quarter inflation figures, which are released next week, are critical for RBA’s cash rate determinations, and Lowe acknowledged these figures are an important update.
A very low quarterly underlying inflation number (if it is around 0.3%), could still push the RBA to cut the cash rate in November because of concerns that actual inflation will lead to lower inflation expectations. Market expectations are for an underlying increase in inflation of 0.4%.
New Zealand’s consumer price index was also released last week. The headline figure was 0.2% for the year and 0.2% for the quarter.
New Zealand and Australian inflation has a high correlation with the tradable goods component of both economies. Tradable goods and services’ prices reflect changes in the global market. Inflation in tradable goods was flat over the third quarter, but most forecasters were expecting a fall.
This is important for Australia because it indicates prices of tradable goods could be higher than currently expected and poses some upside risk to the September quarter inflation number.
Lowe noted the flexible inflation targeting framework and emphasised the framework allows the central bank to temporarily deviate from the 2% to 3% inflation target band.
The RBA also released its minutes for the September meeting this week. There was no major news in the minutes that deviated from the RBA’s recent commentary. Economic data has been broadly consistent with the RBA’s latest forecasts in the August Statement on Monetary Policy.
It was noted that conditions in the global economy have been “slightly more positive” leading up to the September meeting. A large part of this reason is because of better growth data in China.
On Australia, the meeting minutes noted that GDP growth over the year was higher than had been forecast a year earlier and above estimates of potential growth. Growth moderated in the June quarter, as expected, following the very strong growth recorded in the March quarter. Mining activity has been stronger than expected over the past year because of the lift in resource export volumes, which will continue for the near-term.
Non-mining activity remained at about average rates over the year to the end of the June quarter, supported by low interest rates and the lower dollar. Household consumption growth dropped in the June quarter, as did retail sales. The minutes indicated more recently there has been mixed consumer confidence signs. They stated, “although growth in retail sales had been low over the few months to July, households' perceptions of their personal finances had remained above average.” Better household income growth would be positive for consumption growth.
Labour market conditions are mixed because the unemployment rate has fallen, but employment growth is lacklustre and underemployment is still high. While the employment data has been on the softer side, the forward-looking indicators are still indicating moderate outcomes. Job vacancies are still indicating employment growth around 1.5%pa – which would be a good outcome.
All up, the RBA is more comfortable now with global economic conditions and the domestic economy is holding up well. While Australia is not in a permanently low-inflation world, the risk of sliding into this situation is highly undesirable.
The next inflation update is a key input into the RBA’s forecasts and a very low outcome (say less than 0.3%) could see the RBA cut the cash rate again. But, the NZ CPI indicated that the risk is probably with a higher inflation number.
About the author
Diana Mousina is an economist in the Multi-Asset Group at AMP Capital.
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