This morning the economic news agenda is being set by a place down under and in particular by this.
The monthly Consumer Price Index (CPI) indicator rose 4.0 per cent in the 12 months to May 2024, up from 3.6 per cent in April, according to the latest data from the Australian Bureau of Statistics (ABS).
The most significant contributors to the annual rise to May were Housing (+5.2 per cent), Food and non-alcoholic beverages (+3.3 per cent), Transport (+4.9 per cent), and Alcohol and tobacco (+6.7 per cent).
So we have a rise in the annual figure which means that the pressure on the Reserve Bank of Australia is building. Back on the 7th of May it told us this.
Recent information indicates that inflation continues to moderate, but is declining more slowly than expected.
That has not had a good morning and whilst this is a monthly rather than a quarterly number it is not following what we were told. Back on the 7th of May I pointed out this.
So whilst others are contemplating interest-rate cuts Australia may yet see another rise.
The Reserve Bank of Australia
We can review this in the light of the words of Deputy Governor Kent who spoke in Melbourne earlier.
The tightening in monetary policy over the past two years is underpinning restrictive financial conditions in Australia. This is contributing to slower growth of aggregate demand, thereby helping to bring the level of demand into better balance with supply and lower inflation.
It was not the best of days to be claiming that! But there is more and let me remind you of this from my article on May 7th.
The RBA does not mention the money supply in its release but its last chart pack showed broad money growth to be around 5%. Bringing it up to date I note that in March broad money went above US $3 trillion for the first time. But more applicable for our purposes the annual rate of growth is 4.9% having seen monthly rises of 0.7% in February and 0.3% in March.
The money supply is not showing that things are restrictive and seemed to be suggesting another push. I can update that now with the April figures which were 0.4% on the month raising the annual rate to 5.1%. So if we look ahead 18/24 months for inflation to be running at 2% we would need growth of 3% and the latter does not look likely as we recall Australia is in a GDP per capita recession and depression. So there is a clear risk for inflation two years ahead.
So things are not going very well for the claim that policy is restrictive and presumably inadvertently he confirms this.
While recent economic data have been mixed, they have reinforced the need to remain vigilant to upside risks to inflation.
Central bankers use the word “vigilant” when they fear things are going wrong due to their actions but want to make it look like they have been on the case. We get a confirmation of the public relations effort here.
Monetary policy is the key determinant of financial conditions for households and businesses. Since May 2022, the RBA has raised the cash rate target by 425 basis points.
As you can see he is presenting himself as a doughty inflation warrior. His problem is that it is starting to look like it is not enough. As an aside central bankers seem to have made a pack decision that basis points sounds so much more macho than percentage points as 425 basis points is the new 4.25%.
Theory beats Reality Again
You might think that after the disaster where theories about Transitory inflation went so wrong, you would throw away the failures. But no we have an effort to measure things via something we er can’t measure!
One way to gauge the stance of monetary policy is to compare the cash rate with estimates of the nominal neutral interest rate.
We do get a confession of this if you follow closely.
Definitions of the neutral rate vary,
It is one of those concepts like marking your own homework as the neutral rate as measured by Deputy Governor Kent is below the actual one and policy is restrictive.
but in essence it is the level of the cash rate that would neither stimulate nor restrain demand; in other words, it would underpin a balance between demand and supply of goods and services and in the labour market, with inflation consistent with the inflation target.
That is the numerical equivalent of a word salad. Let me pick out one area which I highlighted on May 7th.
Putting it another way real wages should be rising as we have more than full employment.
Except they have fallen and are not catching up much (made worse by the inflation rise). I pointed out back then the UK had problems with its labour market figures and since then the US has produced a non-farm payroll release where employment was strong ( Establishment Survey) and falling ( Household Survey) at the same time. So all the available evidence suggests that our knowledge of the labour market us struggling. But that is ignored and we get this.
In May, the median estimate among market economists implied that the cash rate was around 1 percentage point above the nominal neutral rate.
Note how is using others as a backing for his fantasy. Although I note that he then feels the need to cover his tracks.
That said, estimates of the neutral rate are subject to considerable uncertainty, so the extent to which monetary policy is restrictive is unclear. Also, the neutral rate can change over time.
Should things go wrong then this is the bit that future speeches will refer to. After a suitable delay the neutral rate will be back as it is o easy to manipulate.
Last thing I remember, I was running for the doorI had to find the passage back to the place I was before“Relax, ” said the night man, “We are programmed to receiveYou can check out any time you like, but you can never leave” ( The Eagles )
We can return to the money supply issue because we are presented with a “dashboard of indicators” with eleven different measures and not one of them is the money supply. Can anybody think why?
Comment
One definition of intelligence is that you learn from your mistakes. Yet we see that central bankers keep making the same ones and in particular they keep preferring theory to reality. That is added to by speeches like this which are presented as research into the facts but only cover the facts which suit the narrative. Indeed they also at times look to change the narrative as I note this from Mohammed El-Erian.
The inflation dynamics are more complicated than most realize; and We should be more open-minded about the inflation targets given secular realities.
Can anybody guess which way we will have to be more “open-minded”?!
The real issue for me is less the inflation rise today as the situation with the money supply. That does not show that policy is restrictive. Another measure used to be that you needed to get interest-rates above inflation for a sustained period with some arguing it needed to be 2% above. Then we have the issue that I looked at on the 5th of this month which is the way the Aussie economy is struggling. Things look really rather stagflationary at the moment. Whilst we are looking at headaches for the RBA then the rise in the 3 year yield by 0.2% to 4.15% makes its QE portfolio look even worse.
Let me finish with some hope as many Aussies were wise enough to ignore the lower for longer Forward Guidance from their central bankers.
Pass-through has been a bit less than in the past because of the high share of mortgages fixed at low rates during the pandemic.
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