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Inflation is back. Australia needs structural reform and a united push from business and government to lift productivity, tame price pressures and secure sustainable growth
It was the economic news we didn’t want. We thought inflation was under control, but it’s not.
The economy is stuck in such a narrow lane that even 75 basis points of rate cuts from the Reserve Bank appears to have overheated the economy and caused demand to rise to a level that is inconsistent with what the economy can supply.
Alarm bells are ringing.
The Consumer Price Index (CPI) signals an economy gasping for air, desperate for more capital, more labour, and more ideas.
The 3.8 per cent rise in headline CPI was impacted by expiring electricity rebates in Queensland and Western Australia. Removing this factor, headline prices would have risen by an elevated 3.2 per cent, still above the Reserve Bank’s target.
41 of the 87 categories of goods and services measured by the Australian Bureau of Statistics grew at annual rate above 3 per cent in the year to October. Even if the new monthly CPI needs seasonal revisions and some of the factors lifting the CPI are temporary as Reserve Bank officials have noted, one thing is clear: inflation is too high.
Areas of the economy that looked to be cooling - like house building - have warmed-up again. The cost of building a home rose 1.7 per cent over the last year. Although that doesn’t sound too bad, it adds to the 40 per cent rise in these prices in the previous five years. Construction companies are paying more for their inputs; they have been dealing with ebbs and flows in supply chains and constant changes to regulations. On the demand side, home buyers are swarming, starved of new options and they are willing to pay and take more risk. The highest bidder wins.
This week APRA acted on its concerns about the recent pick-up in high-risk home lending by putting the macroprudential brakes on. From February banks will not be allowed to lend more than 20 per cent of their new mortgage lending with a debt-to-income level of above six times. That’s designed to cool demand and contain housing-related vulnerabilities in the financial system.
But the lasting solution lies in more housing supply and a pick-up in construction productivity is key. Governments have some ability to make a difference by lowering the administrative hurdles to building, speeding-up approvals along with new technology that might summarise information and identify red flags. Pausing National Construction Code changes is one way the Federal Government is planning to stop making regulatory hurdles higher: a sensible outcome of the Economic Reform Roundtable. Construction firms can help too. They can equip workers with AI and create work environments where they are given permission to experiment and make mistakes but ultimately find efficiencies.
Services inflation of 3.9 per cent in the year to October came from a broad range of sources: rents up 4.2 per cent, medical and hospital services up 5.1 per cent, and domestic holidays and travel up 7.1 per cent. Services mostly reflect the cost of workers to employers. That’s not just their wages but also how productive they are. Unfortunately, wages growth of 3.4 per cent is only viable if it is underpinned by rising labour productivity. Currently, it isn’t.
But it could be if workers were able to move jobs more easily. Removing barriers like stamp duty on moving home could enable better mobility, allowing workers to find the jobs they are most suited to. Giving workers better training and micro credentials in their area of specialty and interest could also be part of the solution.
Next week's national accounts will show an economy growing at maybe 2 per cent, which really just represents population growth. Prior to the pandemic, GDP growth closer to 3 per cent was the norm. A sluggish outcome doesn't mean the Reserve Bank isn't stimulating the economy enough. Australia is just operating with inferior foundations.
Helping the economy breath again is a joint task of business and government. Business should be adopting and utilising the technology available to it to remove inefficiencies and find better ways of working. Government needs to move forward with the Economic Reform Round Table initiatives, continue to engage with business, and consider the Productivity Commission’s five pillar recommendations, due next month. Reforms to corporate taxation holds the most potential for productivity gains as it can inspire new investment in preferred activities, industries, or regions.
The broader community can get on board by being open to reform and better ways of working.
The inflation data are a stinging reminder that the status quo is a dire scenario. But a better future, with consistently low inflation, higher real wages and healthier profits is possible.