ESA National Economic Panel Polls
'It’s important not to overreact’: Australia’s top economists on how to fix high inflation
Wes Mountain/The Conversation, CC BY-ND
Peter Martin, Crawford School of Public Policy, Australian National University
Australia’s top economists are divided about how to tackle ballooning inflation of 6.1% that’s forecast to climb to a three-decade high of 7.75% by the end of the year.
Three of the 48 leading economists surveyed by the Economic Society of Australia and The Conversation say Australia should be able to tolerate an inflation rate of 8% or higher.
Seven expect inflation to fall back to an acceptable level without the need for any further action other than Reserve Bank adjustments to interest rates.
That view was lent weight by news from the United States last week that annual inflation slid from 9.1% to 8.5% in July, after inflation of zero over the month.
Asked how high an inflation rate Australia should be prepared to tolerate, most nominated a rate at the top of or above the Reserve Bank’s 2-3% target band.
Twelve nominated a rate well above the target band.
Ten said the step-up in inflation was primarily caused by events overseas not within Australia’s power to control.
The economists polled are recognised as leaders in their fields, including economic modelling and public policy. Among them are former Reserve Bank, Treasury and OECD officials, and a former member of the Reserve Bank board.
Beyond rate rises, what could be done?
There are three kinds of actions governments can take to bring consumer price inflation down
actions that suppress consumer spending (“demand”)
actions that boost the supply of goods and services (“supply”)
actions that directly restrain prices
Invited to choose from a menu of options, and add options to the menu, the panel placed slightly greater weight on measures to restrain demand than measures to boost supply, and greater weight on both than measures to directly restrain prices.
The most popular measure, backed by 37% of those surveyed, was winding back government spending. Almost as popular, backed by 33%, was a super-profits tax on fossil fuel producers, with the proceeds used to reduce cost of services.
Another tax measure – increased income taxes with the proceeds used to reduce cost of services – was backed by 17%. Two of those surveyed wanted to abandon the legislated Stage 3 tax cuts for higher earners due to take effect in 2024.
But several of those who advocated winding back government spending or boosting tax did so without enthusiasm, believing that while the government should be prepared to assist the Reserve Bank in suppressing consumer demand, suppressing demand wouldn’t tackle the main reasons prices were climbing.
The risks of doing too much
The Australian National University’s Robert Breunig said much of the inflationary pressure had come from things such as oil prices that were beyond the power of Australians to influence, making it “important not to overreact”.
Melbourne University banking specialist Kevin Davis said what appeared to be high inflation might actually mainly be a series of short-term supply-induced price rises, making it hard to see how choking demand could do much good.
Australia’s current ultra-low unemployment rate was an achievement that should be celebrated, rather than put at risk without a good reason.
If high inflation did stay for a while and spread to wages, a welcome side effect would be more affordable housing.
Curtin University macroeconomist Harry Bloch made the point that while measures to suppress demand in Europe and the United States would indeed have an impact on global energy and food prices, that wasn’t true of measures to suppress demand in Australia, which is too small to influence global prices.
Consulting economist Rana Roy disagreed, saying the fact that high inflation wasn’t primarily caused by excess demand was no reason not to treat it by containing demand. Whatever the cause, containing demand would contain inflation.
Mala Raghavan from the University of Tasmania and Leonora Risse from RMIT University suggested winding back or delaying spending in two areas where it was clear the government was contributing to domestically-driven higher prices: subsidies for, and spending on, construction and infrastructure.
Withholding gas, boosting immigration
The most popular ideas for boosting the supply of goods and services to take pressure off inflation were reserving a portion of Australian gas and other commodities for domestic use, and boosting immigration, supported by 33% and 29% of the economists surveyed.
Reserving a portion of Australian east coast gas for use in Australia would help decouple Australia’s east coast gas prices from sky-high international prices as has happened in Western Australia, which reserves 15% of its gas for domestic use.
Boosting immigration would take pressure off costs by easing labour shortages.
Federation University’s Margaret McKenzie suggested investigating blockages in supply chains and offering diplomatic and industry support to bust them.
Subsidising childcare, subsidising fuel
The most popular idea for directly restraining prices was increased subsidies for childcare, supported by 25% of the economists surveyed, several of whom suggested it could also boost the supply of workers who had previously been prevented from working by unaffordable childcare.
Other ideas that would directly restrain some prices included pushing for below-inflation wage rises in the Fair Work Commission and extending the six-month cut in fuel excise due to expire in September.
Former Reserve Bank board member Warwick McKibbin warned against pursuing low inflation for its own sake, saying when the economy was weak or in recession a high rate of inflation could be more easily justified than at other times.
He said the Reserve Bank should stop targeting inflation and instead target the rate of growth in national spending, an idea he will be putting to the independent review of its operations.
Peter Martin, Visiting Fellow, Crawford School of Public Policy, Australian National University
This article is republished from The Conversation under a Creative Commons license. Read the original article.
No need, inflation will fall back to an acceptable level without the need for any government action to back up the RBA Boost childcare subsidies Reserve a portion of gas and other commodities for domestic use Super profits tax on fossil fuel producers with revenue used to reduce cost of services Increase immigration
The question how high an inflation rate should we be willing to tolerate is not well time-defined. In the short run we can accept a high inflation rate because much inflation is driven internationally and outside local fiscal decisions (though the belated return to monetary normality did not help). In a 12 month perspective, international conditions may stabilise (in the sense that they do not get worse), so we should not panic into stringent fiscal controls at this stage.
Reserve a portion of gas and other commodities for domestic use Boost childcare subsidies
The response has to be based on a detailed understanding of the drivers of the increases in the CPI. Important elements of recent experiences relate to supply-side factors; as a consequence we'll have to accept temporary higher CPI increases
Increase immigration Boost childcare subsidies Increase education and training Support expansion of domestic manufacturing
Increases in energy and food prices are major drivers of the current inflation, along with supply chain disruptions associated with the pandemic. While these are "temporary" factors, they will impact prices for some time going forward as increases in energy and raw material prices are passed on by manufacturers and retailers. We can only hope rate increases by central banks in the US and Europe will reduce demand for energy, food and items impacted by supply chain disruptions and offset the "temporary" factors, as raising interest rates in Australia doesn't have much impact. However, failure to raise rates here would lead to an outflow of capital and put downward pressure on the value of the Aussie dollar, which would drive up local prices of imported goods. Over the longer term, raising domestic production through programs like higher immigration, boosting childcare subsidies, improved education and expansion of domestic manufacturing would help lower domestic production costs and provide some insulation for the domestic economy from the impact of foreign shocks.
Increase immigration Push for below-inflation wage rises in the Fair Work Commission Wind back government spending Structural policies for productivity and use broad money supply as a guide
Productivity is lamentable in Australia, and needs addressing in the medium term. For monetary policy, the link between fiscal and money in the hands of households is important. Money was the best indicator of what was coming.
Increase immigration Push for below-inflation wage rises in the Fair Work Commission Wind back government spending
Our knowledge that low, predictable inflation is best for the economy has been built up over the past 100 years of macroeconomics. The statement on the RBA webpage remains our best answer to this question: "The Governor and the Treasurer have agreed that the appropriate target for monetary policy in Australia is to achieve an inflation rate of 2?3 per cent, on average, over time. This is a rate of inflation sufficiently low that it does not materially distort economic decisions in the community. Seeking to achieve this rate, on average, provides discipline for monetary policy decision-making, and serves as an anchor for private-sector inflation expectations." There is a tremendous amount of uncertainty around inflation and much of the inflationary pressure comes from things outside the control of Australian policy makers. That suggests that it is important not to overreact and it is important to get our own house in order. This means having a serious plan to slowly and steadily decrease debt and micro-economic reform in the areas of tax and regulation.
Wind back government spending
Boost childcare subsidies Reserve a portion of gas and other commodities for domestic use Super profits tax on fossil fuel producers with revenue used to reduce cost of services Wind back government spending
Having begun my professional career (at the RBA) in 1975, l have experienced stagflation, high inflation and high unemployment, the low inflation stability of the past two decades and the enormous policy efforts to reform the economy and eliminate macro economic imbalances. Low inflation is a key element of a strong, sustainable economy, especially in the absence of institutional arrangements that protect savers. The focus for policy needs to be on building productivity and participation, eliminating macro imbalances in the medium term and moving quickly to low emissions. This is obviously not an agenda for monetary policy alone.
Extend the temporary cut in fuel excise due to expire in September
The current inflation push is primarily driven by global (supply) side shocks, including the disruption of supply chains and the geopolitical tensions in Eastern Europe and elsewhere. Even if domestic (more demand-related) factors might be secondary, I still believe that increasing the cash rate is the best available policy response we have at the moment. The challenge for the RBA is to strike a balance between the need to act quickly to anchor inflation expectations and the risk of slowing down the economy too much. In fact, while current data show that the Australian macroeconomy is healthy, there are signs of growing weaknesses both domestically and globally. It seems to me that so far what the RBA is doing is working: inflation expectations implied from financial markets still show inflation within target in the medium term. At the same time the quarter-on-quarter increase in CPI is lower in the first quarter of this year than it in the second quarter, which might indicate that we are approaching the peak of inflation. In terms of other tools, I think that there is limited role for fiscal policy to be used to reduce inflation in this scenario, so my preference goes to continuing the ongoing monetary policy action. RBA should of course now start watching carefully the property market, given the recent decline in values. But again, this is part of the trade-off between disinflation and declining rate of economic activity.
No need, inflation will fall back to an acceptable level without the need for any government action to back up the RBA Super profits tax on fossil fuel producers with revenue used to reduce cost of services
Reduce the rate of monetary expansion
Most items on your list are non-monetary causes of inflation. These blur the distinction between changes in relative prices and changes in the price level (properly measured). In the longer-term, it is not real factors but monetary factors that determine inflation, such as the ?quantitative easing? (aka monetary expansion) followed by central banks around the world.
Longer term there is still a need to deal with low productivity growth There has been no attempt to reform taxation in Australia for many years
I suspect there are many in the community who simple cannot remember serious inflation and the broader distortions it creates. At the moment the focus is (rightly) on the pressure on cost of living. Longer term, inflation adds significant cost and risk to a wide range of decisions (including investments) and ultimately that feeds through to lower living standards, especially for the poor. So aiming for an inflation rate that has seen a sustained period of growth in Australia makes sense. That said, there are other challenges. Governments of both persuasions have been reluctant to tackle serious economic reforms, like taxation reform, for several decades. Ultimately that will catch up with us and make the cost of dealing with transient difficult events much higher than it should be.
Wind back government spending Increase income taxes with revenue used to reduce cost of services
Substantial increases in interest rates by the RBA do not seem to be an appropriate policy for dealing with current problems. Inflation is conventionally defined as an ongoing increase in prices. Whether that is what is happening at the moment, rather than a one-off, possibly short term increase in some prices due to supply issues etc is unclear. Claimed labour shortages, if not a reflection of attempts to maintain profits involving low wage levels, do however give some credibility to demand factors arising, inter alia, from high government spending. If inflation is caused by mainly supply induced short term price increases, it is far from clear that attempting to choke demand by interest rate increases is an appropriate policy. If it does choke demand, the employment consequences are undesirable (shouldn?t we be celebrating low unemployment rates?) and it is far from clear that the main effect is on demand for real goods and services rather than on financial asset prices (which may eventually affect real investment and demand via wealth effects - but these are channels of transmission in which I have limited faith). One consequence of a period of consumer price (and hopefully) corresponding wage increases which tends to get neglected, is that it may be a better way of solving housing unaffordability than relying on house prices falling. House prices are high relative to wages, so solutions to that problem could be either house prices falling or wages increasing (or some mix). Unfortunately if increases in wages and prices are reflected in higher interest rates, due to policy reactions or market expectations of inflation, the structure of mortgages will lead to large increases in repayments ? with major impact upon relatively recent, high loan/valuation, borrowers. So solving housing affordability by increasing the denominator (nominal incomes) rather than reducing the numerator (house prices) may be even more painful for such borrowers (who may move into negative equity when house prices fall, but can maintain repayments). But the effect of higher nominal incomes (with stagnant house prices), even if not involving higher real incomes, should be recognised as one way of reducing housing unaffordability. A risk is that high inflation expectations may develop, and RBA interest rate increases could be seen as a way of attempting to prevent this by signalling determination to prevent such an occurrence. But if such expectations are developing, this should be reflected in higher longer term nominal interest rates. Looking at the structure of government bond yields there has been some increase in longer term rates relative to short term rates, but well below what might indicate a substantive increase in inflation expectations.
No need, inflation will fall back to an acceptable level without the need for any government action to back up the RBA
The current high inflation is mostly a reflection of cost-push pressures emanating from international conditions including high fuel prices and supply bottlenecks. There may also be some pent up demand (e.g. for holidays) post lockdowns. These should be temporary problems, beyond the short-term control of the government, and the options on the list won't be effective in addressing them. Demand side restrictions should be treated with caution, as they may bring down inflation but would also reduce employment and GDP. Domestic supply side policies are also unlikely to be effective as we are close to full employment, and domestic services (health, childcare) are not experiencing significant price increases. Longer term, we face tricky choices with imports and supply-chain uncertainty on one side, and more costly local production on the other.
Reserve a portion of gas and other commodities for domestic use Wind back government spending
I still find it likely that inflation will come down naturally ? with COVID we had a lengthy period of "forced savings" ? people couldn't spend what they earned or received in support payments. This, combined with interruptions to the supply chain, including a shortage of labour, leads to inflation resulting from temporary higher demand combined with lower than usual supply. Any intervention that at the same time taxes and uses the income to reduce prices, will not have the required effects, as the intervention could at best affect relative prices between different products. Reducing labour shortages would at least address domestic shortages in supply (particularly with respect to domestically produced food, including fruit and vegetables).
Boost childcare subsidies No need, inflation will fall back to an acceptable level without the need for any government action to back up the RBA
Much of the present inflation is transitory, caused by supply problems that should ease. Crushing demand to deal with supply problems seems idiotic. There is no evidence of a 1970s-style wage-price spiral. The August data on the Wage Price Index should be a guide, not anecdotes about huge wage increases.
Super profits tax on fossil fuel producers with revenue used to reduce cost of services Reserve a portion of gas and other commodities for domestic use Increase immigration Increase income taxes with revenue used to reduce cost of services Boost childcare subsidies Push for below-inflation wage rises in the Fair Work Commission A strong competition policy
Wind back government spending Extend the temporary cut in fuel excise due to expire in September Super profits tax on the mining sector Provision of more public housing
The RBA wasn't wrong to view a 2-3% inflation rate as a healthy one ? so that is what we would like to return to. How to get there? The first obvious thing is to cut off at the knees all of the continuing expenses on COVID theatre (e.g., purchases of tests, masks, signage, vaccines, etc.) and ballooned bureaucracy focused on COVID that has grown up like a weed over the past two years. It is no longer achieving anything of human value, if it ever did, and it is a huge burden on the Australian purse not to mention a vehicle (through the wages of covid-focused bureaucrats and other expenditures on these wasteful and unproductive line items) for the injection of extra money into the economy. I would also favour measures that reduce the financial suffering of the man on the street without injecting more cash into the economy, so extending the fuel excise cut ticks that box. I've also been in favour of the mining super-profits tax for the decade or so now since it was first seriously floated, as a means of returning some of Australia's natural wealth to Australia (rather than having that wealth flow almost entirely into the pockets of multinational corporations who use part of it to pay fat cheques to a small group of people in Australia). And why not use those proceeds to build more public housing and thereby seek to lower house prices, a counter-inflationary measure that also directly helps regular Australian families with their housing budgets through increasing supply? I'll add that several of the other options offered in the list could be counter-inflationary, but I wouldn't recommend them because of other negative effects I would expect them to have. Also, inflation will eventually fall, as rates rise and more importantly as the fallout of the worldwide economic clusterbomb that the West set off with our disastrous COVID policies (which is mainly responsible for the inflation we are now seeing) settles, and people recover regular habits of thought, activities, and investments, and re-build their productive networks - but that will take time, and the above measures may help to speed the reduction of inflation while we wait.
Wind back government spending
Reducing inflation requires a multi-prong set of policies. These include: . tightening monetary policy with an interest up to the 2-3% inflation target plus 1-2% for the real interest rate . to provide a strong starting point to respond to a future recession; tightening fiscal policy, including reducing expenditure, and primarily via substantial improvement in the efficiency of government provided goods and services, and removing inefficiencies and inequities in the tax system . providing a simpler and logic-based set of rules and regulations for operation of the private sector to choose socially beneficial increases of productivity. . for reasons of equity at the bottom, and to reduce the risks of wages-driven inflation, considering short term additional income support as a trade-off for some reduction of nominal wage growth.
Super profits tax on fossil fuel producers with revenue used to reduce cost of services Increase immigration Boost childcare subsidies
Much of the inflationary pressure in the Australian economy is from supply-side constraints. In particular, high energy costs and labour shortages throughout the economy. The government may be able to alleviate labour shortages through increasing immigration and improving the accessibility of childcare. Additionally, taxing super-profits of energy companies can help to address some of the symptoms of inflation, but whilst worldwide energy market conditions remain as they currently are, the ability of the government to quell inflation will be limited.
Wind back government spending Reserve a portion of gas and other commodities for domestic use Increase immigration
I don't really know what is meant by "be prepared to tolerate" in the main question. We could have inflation never get above 3% by being in a permanently deflationary spiral but that would be terrible. It seems to me the real question is what actions we are prepared to take to stop it getting above 4,5,6,7,8,9,10,... %
Reserve a portion of gas and other commodities for domestic use Increase income taxes with revenue used to reduce cost of services
With the economy back at full capacity we should be operating with a smaller budget deficit than is planned. That would take some pressure off interest rates in the future. Savings on the expenditure side are most unlikely to make much difference, and we therefore need to increase tax revenue to ensure the supply of essential government services. Nevertheless, I expect inflation to fall back as the temporary factors limiting supply are eased. In the meantime reducing some of the pressure points such as energy prices would help.
Wind back government spending Boost taxes with revenue used to repay debt. Eg, broaden the scope of the GST.
The Reserve Bank should not be required to do all the heavy lifting. The Australian Treasury needs to help, by cutting the primary deficit (the budget deficit net of interest payments). In the short run this would help curb excess aggregate demand. In the long run this would help assure bondholders that the authorities are not relying on elevated inflation to stabilise the ratio of government debt to GDP.
No need, inflation will fall back to an acceptable level without the need for any government action to back up the RBA
The Australian data suggests that sustained rates of Australian inflation above 4% tend to result in falls in investment and rising inflation . This is the condition called "stagflation" High interest rates proved sufficient to bring down high inflation in the 1980s and should prove enough again.
There are some signs that the interest rate hikes are dampening demand which would help reduce inflationary pressures. It is not clear that other government actions at this time would help. For example, government actions to boost the labour force participation rate (while worthwhile in their own right), are unlikely to bring down the inflation rate as there is little evidence current inflationary pressures are coming from tight labour markets. It is also unclear that the high inflation rate is due to a fundamental mismatch of demand and supply factors; in which case, actions that could change underlying behaviour may be counter-productive.
Reserve a portion of gas and other commodities for domestic use Super profits tax on fossil fuel producers with revenue used to reduce cost of services Monitor price setting mechanism in less competitive industries to prevent prices to diverge from costs of production
The current inflationary pressures started with an energy shock, related to the Ukraine-Russia war, and followed a long period of extraordinarily low interest rates combined with a aggressively expansionary fiscal policies in the first couple of years of the COVID-19 pandemic. The last AEMO report on the second quarter 2022 indicates that ?Q2 (2022) was an unparalleled period for Australia?s energy markets?, where the wholesale electricity price rose from $177/MWh in Q1 to $264/MWh in Q2. Presently stagflation ? a nasty combination of inflation and stagnation ? is only a theoretical possibility in Australia, given its 0.8% growth rate in the March 2022 quarter that followed a 3.6% growth rate in the December 2021 quarter (ABS, March 2022). However, reminiscence of the 1970s-style international crisis alerts us to this possibility particularly if larger economies, such as the US and China, struggle to recover. There are three additional features of the current inflationary environment that are specific to Australia. The first is the very peculiar features of the energy market, suffering from governments? inertia on renewable energy sources and the export orientation of the profit-hungry gas industry. The second is the long-lasting housing crisis involving high rental prices, limited (I should say almost nil) availability of affordable rental housing for low-income workers, and the recent wave of first homebuyers who have taken advantage of the low interest rate regimes of the last few years. With an increase in housing investors? activities in 2021, following a sharp increase in first-home buyers in 2020 (RBA Bulletin, March 2022) rising interest rates translate into a larger macroeconomic risk originating in the housing markets. The third feature is low wage growth rates, which have declined at least since 2012 (RBA, August 2022). Particularly if unemployment starts to climb, wages are not expected to grow much. In this context, rising interest rates will lead to reduced household purchasing power, potentially more so for low-income households. What Australia should be able to tolerate in terms of inflation depends on how serious the Australian community is in addressing the re-distributional effects that a regime of high interest rates will bring. The challenges stem from the tendency of rental prices to increase, combined with a surge in profits and stable or only slightly increasing wages. This largely depends on what Australian governments, at state and federal levels, are prepared to do to counter the redistribution effects of rampant interest rates. Whether these inflationary pressures should be tackled with a savvy combination of monetary and fiscal policy and a renewed attention to the supply-side of the economy is a no-brainer to many. Whether we are mature enough to talk seriously about profits and wages, income and wealth distribution and inequality, housing and rental crises, time will tell. What is at stake is Australia?s ability and willingness to tackle the real structural challenges we have faced (and largely ignored) for decades.
Increase income taxes with revenue used to reduce cost of services Boost childcare subsidies Super profits tax on fossil fuel producers with revenue used to reduce cost of services Investigate supply chain shortages including those in international trade and offer diplomatic and industry support to reduce themupport to move to renewables as rapidly as possible
Keeping wages down and suppressing demand should not be the solution as they were not the cause of inflation, which is supply side induced mainly through supply chain shortages and energy price increases. Therefore inflation should be addressed through fixing those, including trade bottlenecks especially with China, and support for local production. We know from the 1970s that people suffer more from increased unemployment than they do from increased inflation, when they occur at the same time. Making public health, childcare and education and other public services free would assist with that. Some fixes are only longer term ones.
Reserve a portion of gas and other commodities for domestic use Raise productivity growth
The tolerable rate of inflation in the question should be qualified by the existing and expected rate of GDP growth. If the economy is in recession, then a higher rate of inflation for a period could be tolerated as long as it is made clear that the RBA has a long-term inflation target. A better approach would be a nominal demand target (such as gross national expenditure) of 5-6% growth, so that if output growth is weak, it is clear that a period of higher inflation is acceptable as long as the nominal growth target is achieved. Once real growth returns to trend then inflation will fall back into the long-term target range if the nominal growth target is achieved.
Increase immigration Boost childcare subsidies Cancel Stage 3 tax cuts Tax reform RBA to target nominal GDP rather than inflation
Consider supply side interventions, ensure that there is no unnecessary increase in demand, and let monetary policy do its thing, but the RBA needs to target nominal GDP, not inflation. Focusing on the supply side, and the energy transition, will require more long-term public investment, not less. This means that we cannot afford the Stage 3 tax cuts, and we need to urgently improve the overall efficiency of how we raise taxes.
Wind back government spending
The RBA should keep its current inflation target range of 2-3%. Longer-term expectations, including in the bond market (see the 10-year break even rate, which was 2.3% in June) assume this target range will persist. To change the target range just because inflation is currently outside of it would be disruptive. It should be noted that the target range is supposed to be achieved over time, not at every instant. The recent higher inflation means that average inflation over the past five years will be within the target range, rather than below. I expect the current high inflation will come down next year. The key is that longer-term expectations remain anchored. In addition to the unwinding of supply-chain issues, it would be helpful for fiscal policy to be less stimulative in order to bring inflation back to the target range in a timely manner.
Super profits tax on fossil fuel producers with revenue used to reduce cost of services Boost childcare subsidies Look to other costs and subsidised services of government such as pharmaceutical benefits to reduce cost of essentials on families
I am concerned that interest rate rises are indeed a very blunt instrument which may cause considerable harm. Unfortunately they were raised too late and too fast and the shock value on consumers and business may well result in overshoot and recession. As one Central bank governor I believe said (not exact words but the sentiment), interest rates are like an elastic band, you can pull and pull to no effect and then suddenly all gives way.
Wind back government spending Increase income taxes with revenue used to reduce cost of services Increase immigration Reserve a portion of gas and other commodities for domestic use Super profits tax on fossil fuel producers with revenue used to reduce cost of services
Within macroeconomics there is some debate as to whether inflation targeting should be pursued or not. Rightly or wrongly Australia has pursued an inflation target (underlying inflation target of 2%-3% over the longer-term). The importance of the inflation target is that it helps anchor price expectations and anchoring price or inflation expectations is key to managing inflation. Temporary (short-term) changes in inflation expectations can be managed. The problem arises when the expectations become unanchored with the risk of wage-price spirals. We are told that the current inflationary pressures are largely being driven by factors such as breaks in the supply chains in some sectors and energy and food prices as a result of the Ukraine war. The expectation is that these price pressures may peter out over the next year. For the meantime there is therefore a strong argument to try to hold to present long-term underlying inflation anchor or expectation band of 2-3%. There is no question that the current situation is complex. The government needs to also step up and do its part in helping address the inflation problem. This means not overly relying on monetary policy. It means recognising that fiscal policy also has a part to play in stabilising the economy and inflation. As part of this they should reverse the planned income tax cuts as they will only add fuel to the fire. Money saved needs to be invested in social programs and priority needs to be given to reducing the rising inequality in Australia.
No need, inflation will fall back to an acceptable level without the need for any government action to back up the RBA
Some short run inflation is inevitable as a consequence of expansionary measures taken to prevent a crash during the lockdown. This is not a justification for cutting real wages. The inflation targeting regime has failed, and should be replaced by a nominal income target. Regardless, inflation rate around 4% is needed to avoid future episodes of zero interest rates
Wind back government spending Super profits tax on fossil fuel producers with revenue used to reduce cost of services Increase immigration Strengthen the supply chain
Australia should continue to adopt 2-3%. The challenge is for the RBA to have the "will" to steer the inflation towards these targets in the medium term. Supply-driven shocks mainly cause the current inflationary pressure. In the present scenario, appropriate fiscal measures are needed. The government should delay spending on infrastructure projects to reduce the crowding effects, easing supply chain pressure and labour market issues in private sectors. To minimise the supply disruptions, the government should support the domestic production capabilities and help to address the labour shortages.
Reserve a portion of gas and other commodities for domestic use Super profits tax on fossil fuel producers with revenue used to reduce cost of services
Much of the current inflation is being driven by international forces and supply chain constraints. To that extent, reducing demand is not the solution. But a key task is to prevent expectation of high inflation becoming embedded in price and wage fixing.
Push for below-inflation wage rises in the Fair Work Commission Boost childcare subsidies Reverse recent increases in tertiary education feesMore subsidies for public transport; Wind back government spending and subsidies in construction and infrastructure (where supply is already at capacity); Temporary subsidies for essential purchases for low-income groups e.g. school uniforms;
One potential way to judge what is the highest level of inflation the economy can tolerate is to consider how inflation correlates with other economic indicators. When inflation started rising above 3% (the upper bound of the existing target range) in June 2021, we saw unemployment start to drop below 4.5%, while the job vacancy rate started to climb above its long-run average, reaching 2.5%. As inflation climbed further to 5% by March 2022, unemployment dropped below 4%, while the job vacancy rate rose above 3%. Great for jobseekers but also a sign of worker shortages. So one practical way to answer this question is: what level of job vacancies would be considered dysfunctional for the economy? Anyone who's tried to catch a flight in recent months would probably attest that a job vacancy rate of over 3% is biting into our everyday functionality and productivity. At the same time, achieving an unemployment rate below 4% (and without a fall in labour force participation rates) has been significant for jobseekers. It's proven that they are employable when given the chance. If we had achieved the 2-3% inflation target range during the past 10 years, possibly we could have seen sub-4% unemployment rather than the 5%+ rate that we experienced. But then we would have needed to ensure that we had sufficient suitably-skilled workers, as well as efficient job-matching mechanisms, to fill these vacancies. The exact correlations between these economic indicators depend, of course, on various other factors, including reopening our borders to migration flows, and the extent to which working-from-home arrangements are retained, as this has been a big enabler of participation. To put a lid on inflation, we need to understand that inflation is a sign of excess demand and/or shortage in supply. It's a signal that we need to switch to more cost-effective choices, or risk running out of that product completely. Responding with broad-based subsidies (such as the petrol excise cut) can have the effect of propping up demand and paradoxically keeping prices higher than they would be otherwise. An alternative policy, in response to global fuel shortages, would have been to subsidise people to switch to public transport and more economical options. If cost of living relief is offered, it needs to be carefully targeted to lower income groups, for whom the higher costs of essential items takes up a larger fraction of their household budget. We want to avoid inflation expectations sparking a wage-price spiral, but we don't see any evidence of this happening. The ABS Producer Price Index shows the largest cost drivers for businesses are non-labour inputs like fuel, timber and freight costs, not wages. (When assessing the inflation target, we need to consider that the target is based on "average inflation over time". For the three years before the pandemic, inflation was constantly below the 2-3% target range. During the early months of the pandemic, inflation actually fell into negative territory. If we stretch out our time horizon over the past two years (June 2020 to June 2022), average inflation is 2.7%, well within the range).
I very much welcome the RBA Governor?s statement of August 2022 and its crystal-clear communication that ?The Board places a high priority on the return of inflation to the 2?3 per cent range over time? and that ?The Board is committed to doing what is necessary to ensure that inflation in Australia returns to target over time.? See here: https://www.rba.gov.au/media-releases/2022/mr-22-21.html I have long been critical of the ultra-dovish monetary policy pursued by the RBA and other central banks over several years and their ready tolerance of the inevitable consequence of that policy, namely, the massive inflation in asset prices and the attendant redistribution of wealth from the asset-poor many to the asset-rich few. See for example my answer to the National Economic Panel poll in November 2021: https://esacentral.org.au/polls-item/45408/top-economists-see-no-prolonged-high-inflation-no-rate-hike-next-year-q4/ I therefore welcome the RBA?s most recent decisions and statements on monetary policy not only for their intended contribution to the containment of consumer price inflation but also for their likely contribution to a reduction in asset price inflation. The prolonged rise in consumer price inflation since 2021 is, I think, the result of several negative supply shocks and not of ?excess demand?. But it is a non sequitur to conclude that monetary (and/or fiscal) policy aimed at reducing demand is therefore inappropriate. Whatever the cause in the imbalance of supply and demand, immediate action aimed at reducing demand will indeed be required to contain inflation ? if a correction to the insufficiency of supply is not immediately or fully available. In my November 2021 answer, I wrote that ?supressing this inflation will need deliberate corrective action: it will not pass of its own accord. Energy prices are likely to remain elevated for some time; supply chain disruptions will be overcome but the reconfigured, more-regionalised supply chains are likely to be more expensive than the global supply chains of yesteryear; consumer prices across the board will reflect these higher input prices; and wages will chase prices higher, and already doing just that.? Data that has emerged subsequently as well as new developments resulting from the recent policy actions of the collective West require a significant deepening of this sombre prognosis. The collective West needs to confront the fact of a long list of intractable negative supply shocks. These include: (1) the reduction in labour supply as a result of COVID, with millions dead, millions sick, and millions more sick-to-death of their work, especially those in hard manual trades, with a consequent reduction in participation rates (in regard to the United States, see inter alia https://www.npr.org/2022/07/31/1114375163/long-covid-longhaulers-disability-labor-ada) (2) the apparent coincidence of this result with a demographic bulge of natural retirements in several critical manual trades, such as trucking (3) the well-reported disruption of global supply chains as a result of COVID (4) the re-enforcement thereby of a long-established but much-neglected re-orientation of global trade flows, in particular, the inexorable rise of so-called ?South-to-South? trade, relative to ?South-to-North?, ?North-to-South?, and ?North-to-North? trade (see here: https://ourworldindata.org/trade-and-globalization) (5) what is best called the ?Biden tax?, in deference to President Biden?s suggestion to personalise the phenomenon: that is, the records-busting inflation in the price of oil and gas and food and fertilizer, etc., etc., as a result of the attempt by Western governments to deprive the world of exports from the Russian Federation and thereby to deprive the Russian Federation of revenues from the said exports ? an attempt that has failed in its intended effect (since the reduction in Russian exports in volume terms has been limited by China multiplying its imports of Russian gas and India multiplying its imports of Russian oil, and since the volume effect has been more than offset by the price effect) but which has nonetheless succeeded in enforcing a self-sanctioning of, and consequent inflation in, the collective West (6) the immense impetus to ?South-to-South? trade resulting from this sanctions war, as evidenced in several recent developments, such as, for example, the applications by major Asian, African and Latin American countries (including Iran, Turkey, Egypt, and Argentina) to join the BRICS (Brazil-Russia-India-China-South Africa) collective, and also the successful launch last month of the St. Petersburg-to-Mumbai transport corridor (see here: https://www.railfreight.com/corridors/2022/07/18/first-russia-rail-shipment-to-india-reaches-mumbai-with-more-to-come/) 7) the increasing possibility of a new ?Pelosi tax? to complement the ?Biden tax?: that is, shortages of, and price inflation in, critical exports from Taipei, Province of China, as a result of the inevitable disruption in cross-Strait relations between the island and the mainland, consequent to Speaker Pelosi?s recent visit to Taipei. Against this background, it is unsurprising that consumer price inflation continues its uninterrupted upward climb in North America and Europe, despite the fact that the US economy has already fallen into recession (see here: https://www.news.com.au/finance/economy/world-economy/us-unofficially-plunges-into-recession-after-economy-shrinks-for-second-quarter-running/news-story/f7c9cb10de6b5be87c4a2d8c952d97ea) and that the UK economy is about to fall into what the Bank of England now forecasts to be a particularly long-lasting recession (see here: https://www.bbc.com/news/business-62405037). Of course, as a major commodity exporter, Australia is well-positioned relative to most of the rest of the OECD block. As the RBA Governor noted in his statement of 2 August (see here: https://www.rba.gov.au/media-releases/2022/mr-22-21.htm): ?National income is also being boosted by a rise in the terms of trade, which are at a record high.? Moreover, there is now a major opportunity for Australia to increase energy exports to Europe in volume terms as well as price terms. Led by Germany and its Green Party Ministers, much of Europe is transitioning rapidly to a new energy mix, with a prominent role for high-polluting brown coal ? see inter alia https://www.nytimes.com/2022/06/19/world/europe/germany-russia-gas.html ? as well as expensive LNG shipped from across the far oceans, more polluting by far than Russian natural gas transported by pipelines. (After three decades of patient work on environmental externalities, I do have some difficulty with this ? but my personal discomfort is irrelevant to the matter at hand.) Hence, I am inclined to agree with Governor Lowe?s prognosis that Australia may well succeed in avoiding another recession ? if not necessarily with the Bank?s forecast of ?GDP growth of 3? per cent over 2022 and 1? per cent in each of the following two years? (see here: https://www.rba.gov.au/media-releases/2022/mr-22-21.htm). What Australia cannot avoid is the need for an undistracted and possibly long-lasting effort to arrest and reverse consumer price inflation, with monetary and fiscal policy working in concert. With luck, success in this effort will bring in its wake an asset price deflation ? for this last is a deflation that Australia has to have. Postscript: I have refrained from making a choice from the list of "other actions". I do not think it helpful to commence the necessary public dialogue with several various wish-lists from several various commentators. As a consultant to national governments and international government agencies, and as a former Australian public servant, I feel duty-bound to advise decision-makers and their research staff to confront, and to communicate, a more sombre prognosis. The sum of negative supply shocks that has triggered inflation may take several years to offset, and part of it may never be fully offset; therefore, controlling inflation may well require a short-to-medium-term retrenchment of demand; hence, the main challenge of fiscal policy may well be to create the space for the requisite social protection measures rather than choosing between various silver-bullets that promise to cure the insufficiency of supply.
Push for below-inflation wage rises in the Fair Work Commission Super profits tax on fossil fuel producers with revenue used to reduce cost of services Increase income taxes with revenue used to reduce cost of services Raise taxes on higher income earners
It is critical now that the Reserve Bank of Australia raises interest (cash) rates hard and fast (my guess is to about 3.5% by the end of 2022), so that inflation expectations are not accelerated. Consumers need to understand that current inflation is temporary. If rates increase quickly, the Australian dollar will increase in value which will make imports cheaper and will reduce demand for local products. This decrease in external demand will be helpful to reduce inflationary pressures domestically. The government should increase taxation, preferably of individuals in the higher income brackets and companies that invest in fossil fuel production locally or worldwide. This will reduce high demand domestically (and hopefully discourage investments in unsustainable industries, which would be a plus for tackling climate change issues). I sincerely hope that trade unions will refrain from negotiating higher nominal wages, as this would lock in higher inflation expectations. It would make us all poorer. I also recommend that the government invests heavily and swiftly in green energy and electric vehicles so that household consumption is less dependent on highly volatile and currently excessively costly fuel prices. For instance, electric vehicles should not be priced as luxury cars and fossil-fueled cars should not receive subsidies. The cut in the fuel excise tax by the previous government was economically an unsound policy and should be stopped immediately. It sent the wrong signal to consumers. The earlier consumers change to sustainable consumption the better for Australian economic, environmental and social welfare.
Increase immigration Extend the temporary cut in fuel excise due to expire in September No need, inflation will fall back to an acceptable level without the need for any government action to back up the RBA Reserve a portion of gas and other commodities for domestic use
Inflation in Australia is high but should peak within a year (bar unexpected major global shocks). Oil and construction materials prices are already moderating as some global supply constraints begin to ease. Global natural gas market issues will persist due to logistical inflexibilities, and local government intervention is needed. Unlike in the US, aggregate demand is not a primary cause of current Australian inflation. However the RBA has been forced to react to curb rising inflation expectations. Raising inflation tolerance to 4% for a while will prevent an over-reaction in monetary policy, and would be consistent with the RBA?s flexible average inflation target. It?s worth noting that (even now) the average inflation rate since June 2017 is within the target range of 2-3%.
Wind back government spending Push for below-inflation wage rises in the Fair Work Commission Increase immigration
Unfortunately, around 65-75% of the current increase in inflation in Australia is because of international supply shocks (supply chain disruptions and energy prices). Both monetary and fiscal policies are ineffective in easing these shocks. Therefore, high inflation is inevitable and will last at least another year. Once supply chain disruptions and energy prices normalize, inflation will return to 2-3%.
Boost childcare subsidies Reserve a portion of gas and other commodities for domestic use Wind back government spending
Policies will need to be implemented to scale back demand for goods and services while securing the supply of essential goods against global supply chain disruptions. Non-discretionary inflation has risen more sharply than discretionary inflation, so while government spending will need to be scaled back, care needs to be taken to ensure that low-income households are not plunged any further into financial distress. Given labour market shortages, a boost to childcare subsidies may increase the capacity for workforce participation by those with childcare responsibilities, which would further ease cost-push inflationary pressures.
Super profits tax on fossil fuel producers with revenue used to reduce cost of services Increase income taxes with revenue used to reduce cost of services
The wage share of GDP is at an historic low and we need to ensure that wage increases, modest as they are, are not transferred as price rises. To prevent this, we need a hard product market environment. Keeping import prices low, through a high exchange rate and high interest rate will contribute to a hard product market environment as well as keeping a lid on inflation.
Wind back government spending Super profits tax on fossil fuel producers with revenue used to reduce cost of services Boost childcare subsidies Increase income taxes with revenue used to reduce cost of services
Reducing inflation is a priority. While a lot of the upward pressure on prices has been from supply shocks, strong domestic demand is playing a role. Consumer spending is higher across the board than pre-COVID. Labour market conditions are extremely tight. Regardless of the cause, the risk is a de-anchoring of expectations that will make inflation much harder to tame in the longer run. The federal government's policy settings should support the RBA in bringing inflation down by expanding the productive capacity of the economy and pulling back on demand. On the supply side, it can ease labour market pressures by boosting women's participation through more affordable childcare. (On migration, boosting permanent migration does almost nothing for short term labour shortages since most applicants are already onshore, and in any case migrants add to demand as well as supply in the economy.) Governments can take demand out of the economy through reducing spending (particularly in the capacity constrained infrastructure sector) and using targeted tax increases (especially to offset any cost of living support that may be needed for those already below the poverty line such as JobSeeker recipients). I wouldn't favour extending the fuel excise cut ? it is an expensive, blunt and regressive tool for dealing with broad costs of living increases. Nor do I support below inflation rises for those on the minimum wage. Broader wage restraint across the economy is important but the small proportion receiving the minimum wage won't make that much difference and are least well placed to bear the costs of a real wage cut.