Earlier this year I wrote to members challenging the idea that Australians were “spending like sailors on shore leave” or that household spending was the main cause of inflation.
Well, here we are again.
The Reserve Bank has lifted the cash rate by another 0.25%, taking it to 4.60%, its highest level in 15 years. Once again, its answer to inflation is to punish people paying off a home and, indirectly, renters, builders and small businesses.
Mortgage holders will pay more immediately. Renters won’t escape either. Higher interest and construction costs discourage investment in new housing, making our housing shortage harder to solve and adding further pressure to rents.
The frustrating part is that higher interest rates do very little to address many of the things actually driving inflation.
They cannot produce more oil, reduce international freight costs, generate more electricity, build more houses or improve Australia’s productivity. They simply take more money away from borrowers and slow the economy.
The latest ABS figures make that point fairly clearly.
Inflation has risen to 4.0%
Figures released by the ABS this morning show headline inflation increased to 4.0% in the year to August, up from 3.5% in July. The increase was driven largely by fuel prices, while underlying trimmed mean inflation remained at 3.6%.
That hardly looks like inflation caused by people rushing out to buy televisions, furniture and new clothes.
In fact, total household spending was completely flat in August. Discretionary spending fell by 0.3%, including falls of 1.4% for recreation and culture, 1.0% for clothing and footwear and 0.6% for furnishings and household equipment.
Non-discretionary spending, however, rose by 0.6%, driven largely by transport. People were not spending more because they felt flush. They were paying more for the things they needed.
So what is driving inflation?
Housing remains one of the largest pressures. In the year to July, housing costs rose by 5.0%. New dwelling prices increased by 5.7%, with the ABS specifically attributing the rise to builders passing on higher labour and material costs. Rents rose by 3.6% and electricity by 6.1%.
These figures point to a shortage of housing, constrained building capacity, higher construction costs and energy prices. Increasing interest rates does not solve any of those problems. It makes financing new homes more expensive and risks reducing supply even further.
Food and non-alcoholic beverages increased by 3.2%. Meals out and takeaway food rose by 4.5%, which the ABS attributed to higher ingredient, operating and labour costs. Again, this is businesses passing through unavoidable costs, not evidence that households are spending frivolously.
Education costs increased by 4.8%, health by 3.8%, and insurance and financial services by 3.1%. These are not luxury purchases. For most households, they are either essential or very difficult to avoid.
Fuel and freight are also feeding through the economy. The RBA itself says global oil supply disruptions are maintaining upward pressure on Australian energy prices and that higher fuel costs are flowing into the prices of other goods and services.
The latest ABS producer price figures reinforce that point. Final demand prices rose by 3.6% over the year to June. Manufacturing prices rose by 2.2% during the quarter, building construction prices rose by 1.4%, and road freight transport prices jumped by 15.5% because of higher fuel costs. These costs ultimately find their way into the price paid by consumers.
Wages are not running away either. The Wage Price Index rose by 3.2% over the year to June, below the latest inflation rate. Unemployment has now increased to 4.6%. That is not consistent with an economy in which workers are receiving enormous wage increases and spending without restraint.
The cost of the cure
The ABS Living Cost Index shows that living costs for employee households rose by 3.7% over the year to June. Mortgage interest charges increased by 8.2% in the June quarter alone, following the earlier rate rises.
Mortgage interest is not included in the CPI, but it is most certainly included in the family budget. Yesterday’s increase will push that cost up again.
The Reserve Bank has acknowledged that global energy prices, international supply disruption, higher business input costs and weak productivity are all contributing to inflation. It has also acknowledged that consumer spending is already easing.
Of course, demand forms part of the inflation equation and the Reserve Bank has a responsibility to bring inflation under control. But interest rates are a very blunt instrument.
The current approach asks mortgage holders, renters, builders and small businesses to carry most of the burden for inflation they did not create and cannot fix.
The ABS figures do not show Australians recklessly spending. They show households cutting back on discretionary purchases while paying more for housing, energy, food, transport, health, education and insurance.
If those are the real drivers of inflation, then they need real policy responses. Punishing borrowers over and over again will not build the homes, generate the energy, improve the productivity or repair the supply chains Australia needs.