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Chief economist update: Low for longer

Latest inflation figures released by the Australian Bureau of Statistics (ABS) underscore both the Reserve Bank of Australia's prescience and governor Philip Lowe's expectation that the official cash rate will remain low until at least 2024.

According to the ABS: "Annual inflation for the March 2021 quarter increased to 1.1% following a rise of 0.9% in the December quarter. Price rises in tobacco and furnishings were partially offset by falls in rents, automotive fuel and utilities."

While the annual rate of change in the headline CPI continued to improve since the deflation of the June 2020 quarter (-0.4%) - the first since the March quarter of 1998 (-0.2%) - it remains below even the bottom end of the RBA's 2%-3% target band.

In addition, and as the Australian central bank anticipated at its April meeting, "In the short term, CPI inflation is expected to rise temporarily because of the reversal of some COVID-19-related price reductions", suggesting that the acceleration in consumer prices over the past three quarters could reverse.

But more important, the RBA's preferred measure of inflation - the trimmed mean - decelerated to an annual rate to 1.1% in the March 2021 quarter - the lowest on record - from 1.2% in the December 2020 quarter.

The RBA anticipated all these in its April missive. "...wage and price pressures are subdued and are expected to remain so for some years. The economy is operating with considerable spare capacity and unemployment is still too high. It will take some time to reduce this spare capacity and for the labour market to be tight enough to generate wage increases that are consistent with achieving the inflation target ... Looking through this, underlying inflation is expected to remain below 2 per cent over the next few years.

The Australian economy is certainly recovering faster than expected and the labour market has improved significantly. The unemployment rate dropped to 5.6% in March after jumping to 7.5% in July last year -- its highest level in 22 years.

This jobless rate remains insufficient to drive wages higher. Recall the good governor declaring that wages have to grow sustainably by more than 3% for it to be transmitted into higher inflation.

The experience of the past few years suggests that the unemployment rate needs to drop by more than the RBA's expectations of "around 51/4 per cent by mid 2023".

Australia's unemployment rate fell to around 5.0% between late-2018 and early-2019, yet growth in total wages growth reached a high of only 2.3% during that period and the annual rate of inflation remained below the RBA's target - headline CPI and underlying measure at 1.9%.

Surely, the demand (boosted by monetary and fiscal largesse) and supply (hindered by supply chain disruptions and social and business restrictions) is tilted towards higher inflation going forward but this is counteracted by job insecurity and business discounting.

Read our full COVID-19 news coverage and analysis here.

Read more: ABSAustralian Bureau of StatisticsPhilip LoweReserve Bank of Australia