Michael Pascoe: RBA chief says it’s all about the wages
For 29 years, the Reserve Bank has set interest rates in pursuit of its inflation target.
As Australians were getting stuck into their Melbourne Cup Day lunches on Tuesday, that changed.
Without quite saying it, the RBA’s monetary policy for at least the next couple of years will primarily be about getting wages growth up off the floor.
And Governor Philip Lowe is not very optimistic about that.
He thinks the factors behind a decade of falling wages growth will be hard to change.
Reserve Bank governor Philip Lowe. Photo: AAP
The immediate question everyone asks is: Are interest rates about to rise?
For fixed rates, the answer already is “yes”, by a little bit.
That’s tied up with the RBA ceasing to target a three-year government bond rate of 0.1 per cent.
But for what matters to most of us – variable rates guided by the RBA’s cash rate – the answer is certainly not soon, highly unlikely next year.
Money market speculators focusing purely on the inflation rate to bet on a cash rate rise early next year were slapped down by Dr Lowe.
Beyond “soon” though, into 2023 and 2024, the RBA doesn’t know.
“But it is now also plausible that a lift in the cash rate could be appropriate in 2023.”
The RBA has made two changes from the forecasts it made three months ago in its last quarterly Statement on Monetary Policy – inflation and wages growth.
Those changes will be detailed in the new SoMP on Friday to show the Consumer Price Index 0.5 per cent higher over 2022 at about 2.25 per cent and 0.25 per cent higher over 2023 at 2.5 per cent with the wages price index also up 0.25 per cent over 2023 to 3 per cent.
But 3 per cent is nothing flash. As Dr Lowe explained, inflation just reaching the mid-point of the 2-to-3 per cent range and wages growth just touching 3 per cent “doesn’t justify higher interest rates”.
Dr Lowe said he believed Australia was capable of 1 per cent productivity growth, so with inflation of 2.5 per cent, wages growth should be 3.5 per cent in a steady state.
Wages growth hasn’t been above 3 per cent for a decade and unemployment hasn’t been in the low 4s since the early 1970s – there’s uncertainty about how the labour market will react.
On Tuesday he reiterated that in areas that are already experiencing competition for labour, the first business response is to offer increased flexibility or a bonus, one-off offers trying to avoid building higher wages into the cost base.
He said there is an experiment under way in Western Australia, a closed economy, that is seeing wages pick up “a bit” – but that doesn’t sound like the sort of growth he wants to see.
Adding to the uncertainty is what happens when our international borders fully open.
More workers will be allowed in to cool some of our employment hot spots, but many Australians have pent-up demand to travel overseas, removing their labour from the local market.
Dr Lowe says Australia’s inflation outlook is different to that being experienced overseas.
“We are prepared to look through spikes in the inflation rate, as we have done with headline CPI inflation this year,” he said.
“For inflation to be sustainably in the target range, wages growth will have to be materially higher than it is now. This is likely to take time. The board is prepared to be patient.”
Patience is a virtue.
Adding to the uncertainty is the ongoing debate about whether the present lift in inflation is permanent or transitory. Dr Lowe made the case for it being transitory.
During COVID, demand for products jumped as demand for services fell. That coincided with disrupted supply chains for products.
He suspects we will shift much of our spending back to services just as supply chain troubles are sorted, taking the heat out of products’ prices.
Theoretically, we are already in the inflation target zone and are forecast to stay there – yet the governor is suggesting the cash rate will stay at its crisis level for another couple of years.
That’s the wages growth factor at work, not the CPI.
For those with long memories, it is something of a return to the past.
When Bernie Fraser was governor, he publicly keyed his outlook for inflation off wages. Where they went, the CPI would follow (productivity adjusted).
Bernie was governor from 1989 to 1996, when the inflation target was first spoken of – but he was looking for lower wages growth so that inflation would fall.
Fast forward nearly three decades and an RBA governor is again keying policy off wages, hoping for rises.