Has the Reserve Bank of Australia lost control of inflation?

Inflation has been outside the Reserve Bank’s target range of 2–3 percent, has the RBA lost control?

Governor of the RBA, Philip Lowe at the National Press Club

At the Press Club on Wednesday the Governor of the RBA, Philip Lowe, said it was highly likely that inflation would remain below two per cent until at least 2024. If this is true, then inflation will have been outside the RBA’s target range of 2–3 per cent for eight years.

Does this mean the RBA has lost control of inflation? You can bet that would be the story if inflation was running at 4 per cent.

The Governor of the RBA and the Commonwealth Treasurer have a formal agreement on an inflation target. This target is “for monetary policy in Australia… to achieve an inflation rate of 2–3 per cent, on average, over time.” This agreement has been in place with all the various RBA Governors and Commonwealth Treasurers since 1996.

The Governor is constantly saying the RBA would like to increase the inflation rate back into the target range. But the RBA has turned the dial on monetary policy stimulus to 11 and there is little more they can do.

The other party to the inflation target deal is the Commonwealth Treasurer.
It is the current Treasurer Josh Frydenberg and the previous Treasurer Scott Morrison who are failing.

The Treasurer, through the Government’s budget, can stimulate the economy, increase wages growth and push the inflation rate back into the target band.

Up until 2020, when the inflation rate spent four years below the target range, they both focused on reducing the budget deficit. This had the effect of reducing aggregate demand and slowing the economy down. Depressing wages growth and putting downward pressure on inflation.

While the Government spent record levels of stimulus in 2020, it is already talking about withdrawing stimulus spending with JobKeeper and JobSeeker both being cut at the end of March. This is long before inflation is expected to return sustainably above two per cent.

The RBA Governor told the Press Club that inflation will not get sustainably back into the target range until there is stronger wages growth.

The Treasurer is failing to live up to his agreement with the Governor of the RBA and has failed to do so for many years. Frydenberg is failing Australian workers who have been consigned to record low wages growth.

It’s time for the Treasurer to live up to his side of the inflation target agreement by spending to lift economic growth, wages growth and inflation.

The RBA is currently throwing all its Monetary Policy firepower at the problem. Interest rates are at record lows. The overnight cash rate is 0.1 per cent. The RBA is also using quantitative easing, which is the polite central bank way of saying printing money, to force the three-year bond rate to 0.1 per cent. This has involved creating hundreds of billions of dollars and it has just committed to creating another $100 billion, at $5 billion per week.

The RBA knows that low inflation is bad for the economy. That’s why the target band calls for inflation to be kept above two per cent. Super low inflation means a slow growing economy with low wages.

As the economy recovers from the recession caused by the pandemic it is the Treasurer and the government that need to keep the foot firmly on the stimulus pedal.

They need to abandon the vanity project of trying to run a budget surplus.
If they don’t it will consign Australians to years of stagnant living standards.

Matt Grudnoff is senior economist at independent think-tank, the Australia Institute. @mattgrudnoff

an independent think-tank based in Canberra > australia.org.au

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