Tuesday, February 12, 2008

Going up: In order to save the economy...

When it says in its latest Quarterly Statement that “labour market conditions are tight, and there is some evidence of higher growth in aggregate wages” it means that our unemployment rates have fallen too low.

It is planning to push up interest rates until it gets Australia's unemployment rate back up and Australian wage pressure down.

In the November election the outgoing Prime Minister John Howard said he would like Australia's unemployment rate to have a '3' in front of it. The Reserve Bank won't rest until it has achieved a '5' or a '6'.

Whereas Howard promised to “Go for Growth”, the Bank regards Australia's present fast rate of economic growth (“with domestic demand expanding by 5.5 per cent, well in excess of the trend growth in the economy’s productive capacity”) as the cause of its inflation nightmare...

That, and the way the Howard government and business seemed to sit on their hands during those most of those 16 years of continuous economic growth.

“Given the relatively low share of investment as a proportion of GDP over the 1990s, it may not be surprising that capacity pressures have now become an important issue,” the Bank says.

Twice it mentions the government's tax cuts as part of the problem – fueling the economic growth fire.

And it mentions boom conditions overseas.

As the Macquarie Bank's Rory Robertson put it in a note to clients: “The Bank remains worried not that the economic fallout from events offshore and in financial markets will damage our economy, but that the damage will be too small.”

The Bank believes we are about to get a further boost in our buying power courtesy of still-higher increases in the prices of iron ore and coal, and it is terrified about what it'll will do to inflation, given the way we handled the last one.

It makes the point that the margins charged by shops have soared absurdly and that the prices of goods and services that don't face import competition are climbing at an annual rate of 4.4 per cent.

Almost two decades ago the Reserve Bank brought on a recession in order to get inflation back under control. It doesn't want to have to do it again.

It's prepared to do a lot of damage – anything short of bringing on a recession – in order to whack inflation back down now while it still can.

Among the deliberately unsettling messages in the Bank's Statement – don't assume you will continue to find it easy enough to keep paying off your mortgage and spending as before, and don't assume that if you lose your job you will find it as easy as it has been to find another one.