Reserve Bank doubles down on wages as inflation clamour grows

The Reserve Bank may have dropped its long-standing expectation that interest rates won’t rise until 2024 in yesterday’s November board meeting, but wages growth remains the main objective of monetary policy. If anything, yesterday’s statement, and the media conference by RBA governor Philip Lowe afterwards, strengthened the bank’s stance that significant wages growth was needed before rates would rise.

The board will not increase the cash rate until actual inflation is sustainably within the 2-3% target range. This will require the labour market to be tight enough to generate wages growth that is materially higher than it is currently. This is likely to take some time. The board is prepared to be patient, with the central forecast being for underlying inflation to be no higher than 2½% at the end of 2023 and for only a gradual increase in wages growth.

Lowe repeatedly mentioned wages growth. Particularly “wages growth at the end of 2023 is expected to be running at 3%. While this is higher than it is now, it is still below the average over the two decades to 2015.”

But isn’t inflation rising? Yes and no, Lowe explained: “Inflation, in underlying terms, remains low in Australia, at 2.1%. Inflation is, however, a little higher than it has been over recent years. This increase largely reflects higher oil prices in global markets, higher prices for residential construction and strained global supply chains.”

These are transient causes of higher inflation (residential construction costs are partly the result of the successful HomeBuilder program supporting that sector through the past 18 months). It is wages growth that will drive long-term increases in inflation, by permanently increasing producer costs and assisting higher inflationary expectations. And it’s wages growth that the RBA wants to see to push inflation up into its target band “sustainably”.

This has created an open divide between the bank and inflation hawks and bond markets, which jump at all inflation rises and think any reference to “temporary” inflation is an appalling abandonment of monetary discipline.

There’s another group in the mix, the commentariat at the likes of The Australian Financial Review. The AFR has been demanding rate hikes for years now. For most of that time, that was driven by an ideological fixation with “loose monetary policy”. Now it’s driven by something altogether baser — a deep-seated loathing of workers. The AFR wants higher interest rates in order to choke off strong gains in employment. The wages growth the RBA wants to see is anathema to the AFR and its business readers, who prefer higher unemployment and the real wage cuts that have characterised recent years in Australia.

The idea that unemployment might reach 4% and wages growth reach 3% or — horror of horrors — the 4% that workers enjoyed when Labor was in government fills them with terror.

Luckily for the AFR crowd, there’s little sign of that happening. While the RBA has upgraded its wages forecasts in its final statement of monetary policy for 2021 due on Friday, Lowe noted yesterday: “The starting points for inflation and wages growth are lower in Australia than in many other countries. In addition, our business liaison suggests that wage growth remains modest, although there are some hotspots. Wages growth is expected to pick up as the labour market tightens, but this pick-up is expected to be gradual.”

And: “There is also the question of the impact on labour supply of the opening of the international border.”

Lowe, having pointed out the role migration has played in wages suppression, would be acutely aware of the government’s determination to return to allowing hundreds of thousands of temporary workers into the economy to push wages down.

The falsity of the AFR/business lamentation about wages growth was elegantly demonstrated by figures released on Friday from the Australian Bureau of Statistics in its annual national accounts data for 2020-21. They showed that business costs in the five years to June 30 fell sharply, while GDP and output rose strongly. And since 2016-17, real unit labour costs — that is the cost of employing staff per unit of output — fell a combined 9.1%. Labour productivity rose 3.7% in the same period, including 2.9% in the year to June this year. Gross Value Added per hour worked in the market sector also rose 4.7% since 2016-17.

Australian businesses have enjoyed the best of times: a growing economy while productivity improved and real labour costs declined significantly. But they won’t ever admit that.

It’s possible that things will go better than the RBA forecasts, Lowe says. But it’s also possible that things will go worse.

“It is, of course, also possible that we experience yet another setback that throws the economy off course and delays progress towards our goals,” he said. “One source of such a shock would be a new strain of the virus or a decline in vaccine effectiveness.”

After the past 18 months, who would disagree?