Wednesday, February 20, 2008

Super would save us from inflation - Treasury

Australia's tax cuts would be better delivered as contributions to superannuation if the government wanted to fight inflation according to a senior Treasury official.

The official, Dr David Gruen, also told yesterday's Senate Estimates hearing that unemployment would have to rise in the months ahead as part of the fight against inflation.

His comments about unemployment lend weight to a claim made by the Opposition Treasury Spokesman Malcolm Turnbull that Australia's rate of unemployment is set to increase.

Dr Gruen, the acting executive director of the Treasury's Macroeconomic Group was asked by the Senate Economics Committee what he regarded as an an acceptable non-accelerating rate of unemployment – the so-called NAIRU above which inflation will climb.

He replied that one his colleagues in the Treasury Dr Steven Kennedy believed that the rate was 4.7 per cent, well above the current unemployment rate of 4.1 per cent implying that Australia's unemployment rate would need to climb in order to stop inflation accelerating.

He said the estimate was extremely imprecise.

“But I certainly think it would be fair to say that evidence is accumulating that the current rate of unemployment may be inconsistent with steady inflation,” he added...

“The evidence is stronger now that in was, but that's the situation.”

Dr Gruen represented the Treasury Secretary Ken Henry at the Reserve Bank board meeting that earlier this month decided to put up interest rates by 0.25 per cent and considered putting them up by 0.5 per cent.

His comments suggest that the Bank and the Treasury believe that they will have to push unemployment higher in order to stabilise inflation.

Dr Gruen said the the Treasury had been taken by surprise by the recent growth in inflation. Its benign forecast released before the election in which it predicted that inflation would average 2.75 per cent during the coming financial year was influenced by a few good inflation figures, now superseded by two bad ones.

“Those inflation outcomes now look like a bit of an elaboration,” Dr Gruen said.

The Prime Minister's promise to aim for a bigger budget surplus of 1.5 per cent of GDP in the May budget would help the fight against inflation, although Dr Gruen couldn't say by how much.

More important was Mr Rudd's accompanying promise to bank any upward surprises to revenue rather than spend them.

Dr Gruen said it was possible that upward surprises to revenue could make the surplus much bigger than the targeted $18 billion.

Asked whether the government's promised tax cuts, worth $31 billion over three years, would be inflationary Dr Gruen replied that “in principle if you didn't give any of the tax cuts there would be a substantially greater tightening of fiscal policy, that's true”.

Asked whether the $31 billion would cause less inflation if it was instead paid into superannuation accounts he replied: “I suspect that if the money went into compulsory superannuation it would have less impact on aggregate demand. Yes, I suspect that's right.”

Market expectations of an interest rate hike next month eased a fraction yesterday after the release of figures suggesting that wages growth had not been as high as had been feared.

The Bureau of Statistics' Labour Price Index showed that private sector wages had increased by 4.3 per cent over the last year, public sector wages by 4.1 per cent.

Around 90 per cent of traders now expect a further rate hike next month, down from 92 per cent. Fewer expect a double hike of 0.5 per cent instead of 0.25 per cent.