Next Tuesday the new Reserve Bank governor, Michele Bullock, will get her first test when the RBA board meets. Let us hope she is not one to get easily alarmed, given the latest monthly CPI figures showed a small increase in annual inflation.
The figures released on Wednesday by the Bureau of Statistics showed a slight bump in annual inflation from 4.9% in July to 5.2% in August.
One of the problems with the monthly inflation figures is that, while they give us more timely data on prices, they are also more erratic than the traditional quarterly measure.
That’s why it is best to also look at other measures, such as the one that excludes volatile items and holiday travel, which fell from 5.8% to 5.5%:
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Overall, inflation is following the path of other major nations such as the United States. Indeed, our inflation is largely replicating the old days of us getting TV shows and movies from the US – we’re about six months behind:
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The good news is that, even with the slight increase in August, in the eight months from our peak in December last year, inflation has fallen 3.2 percentage points. By contrast, in the eight months after the US’s peak, inflation fell just 3.0%pts.
Australia’s inflation peaked at a lower level and is falling marginally quicker than was the case in the US. This is despite the central bank in the US raising interest rates there much faster and higher than did the RBA:
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The huge rate rises in the US have, however, made life tougher for us because it has kept the value of the Australia dollar low. Investors naturally like to put their money in places where they can get a higher rate of return. And when the US’s interest rates rise faster, that means more international investors want US dollars and fewer want Australian ones.
As a result the “price” of US dollars rises (reflected by the exchange rate) and the Australian dollar falls.
That’s why anyone buying things from overseas might be finding they are not particularly cheap at the moment. It is also one reason why petrol is so expensive right now.
In August, the price of fuel jumped – unleaded was up 9% and diesel up 14%:
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This is because world oil prices have increased due to Russia and the Opec nations, led by Saudi Arabia, cutting production.
As a general rule, our petrol prices move almost in sync with world oil prices, and so too does the value of the Australian dollar.
Usually when oil and other resource prices are high, the value of our dollar rises. But this has not happened over the past year.
Given past world oil prices, you would have expected the average price of unleaded in August to have been about $1.70, not $2.00:
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Mostly the reason it is not $1.70 is the value of our dollar.
Since last November the world price of oil has fallen 3% in US dollars but has remained flat in Australian dollars. If the value of our dollar had risen, the price of oil in Australian dollars would be less and as a result the price of petrol would also be lower.
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Not all of these higher-than-expected prices are due to the exchange rate. Even when you take that into account, prices should still be lower. One reason they are not is that our petrol sector is little more than an oligopoly, and the pressure to reduce prices is limited.
But all the same, in August Australia effectively imported inflation.
This is not something the Reserve Bank should be reacting to. Yes, higher interest rates might increase the value of the Australian dollar, but at what cost? Higher petrol prices and imported goods are already slowing the economy. Should the RBA slow the economy more just so petrol prices might not rise as fast as they otherwise would?
They should look through the price increases of things they cannot affect. And if you look at big growth items over the past year, there is little that higher interest rates would change:
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Higher interest rates don’t affect the world oil price, the same goes for gas and electricity prices.
The increase in bread and dairy prices is not due to a mass surge in demand for multigrain and cheese, and insurance costs are driven by climate change causing higher reinsurance and natural disaster costs.
And you would be a brave person to suggest that higher interest rates would reduce rental prices.
Next week in her first meeting as governor, Bullock should note that the economy does not need more slowing, and that higher petrol prices and higher rents, gas, electricity and insurance costs are already reducing the ability of households to spend money on non-essential services and goods.
She should argue the Reserve Bank should keep rates where they are, rather than be spooked by things beyond its control.
