At last, some good news.
Despite core inflation still sitting well above target, there’s a better than even chance the official cash rate will be cut within weeks.
The bad news, at least from an Australian perspective, is that it won’t be happening here, but in the US instead.
Why Trump thumped the Democrats
When America’s inflation figures were released this week, they bore an uncanny resemblance to our own.
Headline inflation was way down at 2.6 per cent, a couple of points lower than our latest reading of 2.8 per cent. They’re the kind of levels that look as though the inflation scourge has been well and truly whipped.
But when it came to the all-important core inflation measure, America’s came in at 3.3 per cent, again just a couple of points below us at 3.5 per cent.
Where we differ on inflation is in the trend. America’s, worryingly, has again begun to tick higher. Ours is consistently coming off the boil as the graph below shows.
Immediately after the US data was delivered, money markets pencilled in the chance of yet another rate cut at about 80 per cent when the US Federal Reserve met next month.
Those odds dropped by Friday as markets began reassessing the impact of a Trump presidency on inflation. But they were still factoring in an odds-on chance Fed chair Jerome Powell would deliver a pre-Christmas cut.
Here at home, it’s a completely different story. Money markets and economists are beginning to push out their forecasts for a rate cut as the RBA continues to brush aside any chance of an imminent reduction.
A few months back, it appeared a pre-Christmas cut was on the cards. It was then pushed out to February. Now, it could be May or even later after Reserve Bank governor Michele Bullock this week reiterated her hard-line message the bank hadn’t even ruled out another rise.
Ouch.
Why aren’t we like everyone else?
In the cut and thrust of Canberra politics, nuances tend to be cast aside. And with an election looming, every opportunity to score points is taken.
Both the Albanese government and the Reserve Bank have been under pressure from economists and the opposition to bring inflation to heel.
Until recently, the RBA was pilloried for not pushing interest rates high enough.
Now, with most developed world nations cutting, the RBA has copped flack for being an outlier and holding fast.
RBA governor did not ‘caution’ the government about its spending
There were solid reasons for it not hiking to the same levels as the US.
Australia is the most sensitive nation in the developed world when it comes to interest rate movements. That’s because, unlike most other nations which have fixed interest rates for the life of the loan, the vast bulk of our home loans are on variable rates.
So, when rates rise, those increases flow directly through to a large number of households which immediately are forced to cut spending.
The RBA also wanted to maintain as many jobs as possible and refused to follow the global pack.
New Zealand has cut rates twice, a single cut in August and a double cut in October. But its economy is mired in recession and Kiwis are leaving in droves and heading west to Australia for work. Even after its emergency rate cuts, its cash rate is sitting at 4.75 per cent, well above ours.
The US too has had a single and a double cut. Again, its interest rate is still above ours, in a range between 4.5 per cent and 4.75 per cent.
America will need to cut again next month just to be level pegging with Australia. But with fears now gathering pace that the Trump administration’s tariff, forced migration and deficit policies are likely to be highly inflationary, real questions are emerging as to whether it will be able to deliver.
That would leave us with lower interest rates than many of our contemporary nations.
Does lower inflation mean an end to the cost of living crisis?
Unfortunately, no.
Inflation is falling and that’s what politicians, economists and the RBA is focusing on.
But that doesn’t mean goods and services are suddenly going to become more affordable. It simply means the price rises we’ve experienced over the past few years will slow.
Inflation isn’t a measure of price levels. It is a measure of the speed at which prices are rising. So, even if inflation falls and returns to normal, everything will remain expensive.
The only difference is that costs will rise at a slower pace. And it could take years for wage increases to finally recover that lost ground in household income.
Australian households have been among the hardest hit when it comes to the loss of disposable income, as this graph from the Commonwealth Bank illustrates.
Australian households’ loss of disposable income in recent years, compared to other OECD countries. (Source: CBA, Macrobond)
It is a direct result of our sensitivity to rate movements because of our variable home loan interest rates.
Failing to recognise the difference between inflation and living costs was a fundamental mistake the Biden-Harris administration made during its election campaigning. And it’s a mistake the Albanese government looks to be repeating, trying to convince voters that the worst is behind them.
Struggling households aren’t interested in inflation. They’re focused on prices and whether they can keep a roof over their heads.
The best message any government could hope for is an interest rate cut which would immediately relieve some pressure on family budgets and be a tangible price cut.
Governments, however, don’t have any sway over central banks and are entirely at their mercy.
Why won’t the Reserve Bank just cut?
Managing the economy with interest rates is a little like trying to turn the Queen Mary around with an oar. You need to be able to anticipate the obstacles early and act well ahead of time.
That means raising interest rates before inflation hits and taking your foot off the brakes when you see it starting to decline.
While other central banks have reacted to the sudden drop in inflation, the RBA has been reluctant to move, raising questions about whether it may leave rates too high as the economy cools.
Wages growth slows
It has pointed to strong labour markets with unemployment at just 4.1 per cent as evidence the economy is still running hot. But wages growth has peaked and is now in decline. Figures this week showed private sector wages growing at 3.5 per cent, down from 4.2 per cent in December last year.
Westpac chief economist Luci Ellis, a former RBA assistant governor, raised concerns about the RBA’s actions months ago when she was calling for a November rate cut.
“It’s not because we have a different view about where inflation’s going,” she told SBS.
“It’s that the board is now uncomfortable with the idea of being forward-looking about policy.”
Each of the big four banks had rate cuts pencilled in for February but National Australia Bank broke with the pack this week.
It has retreated with its first forecast cut, now pushed back to May. NAB has, however, cut its variable rate this week, as competition among the banks for home loan customers heats up.
Maybe other banks will respond and act ahead of the RBA.
