Row over government role fuelling inflation, rate rise
Economists say weak productivity growth and strong government spending will leave the Federal Reserve with no choice but to raise interest rates next week.
Treasury Secretary Jim Chalmers flatly denied the government was contributing to a resurgence in inflation after the Federal Reserve’s preferred three-month truncated average measure came in above forecasts on Wednesday.
Money markets are pricing in a three-quarter chance of a rate hike on Tuesday after the Australian Bureau of Statistics reported core inflation of 3.4 percent in 2025.
If the rise in inflation were just a temporary increase in variable components such as electricity and travel, the Central Bank could write it off as a temporary phenomenon and wait.
But it was the latest in a string of new data showing the economy was warmer than the central bank expected in November, following strong employment and household spending figures.
HSBC chief economist Paul Bloxham said ultimately the resurgence in inflation was a result of the Australian economy running above the speed limit, which was falling as a result of anemic productivity growth.
“The question is, how do we slow down the economy? And the answer is: the RBA will have to raise interest rates to make that happen,” he told AAP.
“But it’s not a pretty story because the economy isn’t growing very fast.”
While Dr Chalmers has made boosting productivity growth a priority of his government this term, increasing the economy’s supply capacity will take time.
A good example of this is the increase in housing costs, with rents increasing by 3.9 percent and new housing costs by 3 percent.
The Central Bank is particularly considering housing prices as they form a large component of the CPI basket and are more sticky than other items.
Demand is responding quickly, as evidenced by the increase in applications for the Government’s expanded first home buyer deposit guarantee scheme.
But supply is taking much longer to respond, as evidenced by the fact that housing completions continue to lag behind new housing targets.
Shadow treasurer Ted O’Brien placed the blame squarely at the government’s feet.
“While the Treasurer is desperate to shift the blame, there is no doubt that the Jimflation crisis is internal,” he said.
However, Dr Chalmers said the rise in inflation was not a reflection of public spending but the result of a strong recovery in private spending.
“When it comes to the contribution to our economy, public final demand growth last year decreased rather than increased,” he said.
But the Treasury estimates government spending will reach 27 per cent of GDP this financial year; This would be the highest level since the 1980s, outside of the Covid-19 pandemic.
Mr Bloxham said although private demand was strengthening, public spending booms were crowding out the private sector.
AMP chief economist Shane Oliver also said government spending was contributing to high inflation.
Australian Chamber of Commerce and Industry policy and advocacy chief David Alexander called on the government to reduce public spending to below 25 per cent of GDP.
Not everyone is convinced that a rate hike is necessary.
Phil O’Donaghoe, chief economist at Deutsche Bank, said there was too much focus on the old three-month average and the statistics office’s more recent monthly measure revealed a definite downward trend.
“We do not see a convincing case for an interest rate increase in February,” he said.
Australia’s Associated Press is the beating heart of Australian news. AAP is Australia’s only independent national news channel and has been providing accurate, reliable and fast-paced news content to the media industry, government and corporate sector for 85 years. We inform Australia.
