Alan Kohler: Inflation will go without recession, but RBA can’t take credit for that

The RBA has never forecast a recession but Dr Lowe has been banging on about the narrow path they’re on, Alan Kohler writes.

The RBA has never forecast a recession but Dr Lowe has been banging on about the narrow path they’re on, Alan Kohler writes. Photo: TND

Philip Lowe’s parting gift to the nation is a six-month delay in the time limit for inflation to be above the RBA’s 2 to 3 per cent target.

It might seem like one of those gifts where you try to look surprised and grateful, a while thinking: “It’s the thought that counts.” But that thought has probably made the difference between one more rate hike and none.

In Tuesday’s statement announcing the second “hold” decision in a row, Dr Lowe said: “The central forecast is for CPI inflation to continue to decline, to be around 3.25 per cent by the end of 2024 and to be back within the 2 to 3 per cent target range in late 2025.”

Up to now that central forecast for inflation under 3 per cent has been mid-2025, six months earlier.

Whether he wrapped up the present with a reduction in what they think is the non-accelerating inflation rate of unemployment (NAIRU) to 3.5 per cent, as I suggested a week ago, we’ll never know for sure because they don’t announce such things.

‘Rates have peaked’ wagon

But they have never before stopped hiking rates with unemployment this low, so they must think inflation has stopped accelerating with unemployment at 3.5 per cent.

I wrote in the previous edition of Dollars & Sense a month ago that the hikes had ended and that the cash rate would be 4.1 per cent this time next year and beyond; this week the market and most economists climbed aboard “the rates have peaked” wagon.

That’s because Dr Lowe also said on Tuesday: “The recent data are consistent with inflation returning to the 2 to 3 per cent target range over the forecast horizon …” – a confidence he has not expressed before.

He then added these even more remarkable words – “… with output and employment continuing to grow”.

It’s an echo of the big statement last week by the chairman of the US Federal Reserve, Jerome Powell, that the Fed’s staff “are no longer forecasting a recession”.

The RBA’s staff have never actually forecast a recession, but Dr Lowe has been banging on for more than a year about the narrow path they’re on to get inflation down with a soft landing.

On Tuesday the words “narrow path” didn’t appear in the RBA’s monetary policy statement for the first time in 12 months. The path has been widened.

It’s perhaps understandable that the folks at the RBA – and every other central bank – are persuaded of their god-like omnipotence, since they are the only ones actually managing the economy while politicians take undeserved credit for it. It’s natural that they think they are driving the bus.

But central banks are driving trains, not buses, and unseen forces are switching the tracks. They’re steering like billy-oh but the train was going there anyway.

A great disinflation

We are in the midst of a great disinflation which was interrupted by the COVID pandemic and then the Ukraine war, which temporarily boosted demand with fiscal stimulus and dislocated supply chains.

The argument at the beginning of last year about whether the inflation was transitory or permanent has been resolved: It was transitory, and central bankers the world over can now bask in the unearned glory of getting it down without a recession.

Well, maybe we can give them a clap for not hiking rates too far, as long as they haven’t, which we won’t know for sure until next year.

But labour markets are incredible strong and while there are plenty of private recessions going on among indebted families, statistical national output is being held up by savings and immigration.

Before COVID struck in early 2020, there was no evidence of inflationary pressures, in fact quite the opposite: The Bank of Lowe began that year with the cash rate at an all-time low of 0.75 per cent because they couldn’t get inflation UP to the 2 to 3 per cent target band.

False comparison to 1970s

The recent assumption that the post-pandemic burst of inflation would become embedded and require a recession to be purged has been based on comparisons with the 1970s, but these were false.

RBA Alan Kohler

Three other things are suppressing inflation versus the 1970s: Demographics, debt and inequality. Photo: AAP

That’s because in those days most pay deals contained CPI adjustments, so when inflation jumped as a result of the two oil shocks in 1973 and 1979 it went quickly into wages and became entrenched.

These days almost no wages are adjusted for inflation, the unions have no power and industrial disputes are almost non-existent.

Also, the 1970s was before globalisation (ie China) and the Hilmer competition reforms, so corporations had much more pricing power.

Since then China exported deflation to the world and the trade practices legislation was beefed up with a succession of powerful competition tsars – Bob Baxt, Allan Fels, Graeme Samuel, Rod Sims and now Gina Cass-Gottlieb – keeping would-be monopolists under control.

And companies are now facing an unprecedented wave of innovation and disruption that is constantly pressuring marginal pricing. It’s true that the past 12 months of rising prices have boosted margins and profits, but that won’t last.

Inequality has increased

Three other things are suppressing inflation versus the 1970s: Demographics, debt and inequality.

In the ’70s, Baby Boomers were becoming adults, having children and joining the labour force, leading to a huge structural increase in demand.

The ’70s was also a time of low debt and high velocity of money (the number of times that a unit of currency is used to purchase goods and services).

Now debt is much higher, the velocity of money has halved and inequality is much worse (the ’70s was exceptionally egalitarian), all of which tend to depress demand and inflation, especially in combination.

And on top of all that, China has restarted exporting deflation because its economy is flagging and it’s buying cheap Russian oil and gas.

So the world, and Australia, is back in underlying structural disinflation, which would have happened anyway.

In the meantime, central banks have taken the opportunity to get interest rates back to normal (4.1 per cent is exactly the average RBA cash rate over the past 30 years).

No statistical recession

Happily, there’s enough employment strength and immigration to keep us out of statistical recession, but the process of normalising interest rates has greatly worsened inequality, and a lot of families are having their own recessions.

Actually, amend that. The problem isn’t so much that the cash rate has been normalised now, but that it was cut to 2 per cent in 2015 in the first place, and then 1.5 per cent a year later and left there for three years.

Worse still was 18 months of a 0.1 per cent cash rate and 2 per cent mortgage rates in 2020-21 on which Millennials forming new families feasted, having been assured it would remain so for three years more.

That should be Philip Lowe’s main legacy, not removing inflation without a recession, which Michele Bullock will no doubt happily take credit for.

Alan Kohler writes twice a week for The New Daily. He is finance presenter on ABC News and founder of Eureka Report

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