What’s All This Talk About Inflation?

On the 5th July 2022, the Reserve Bank of Australia (RBA) raised the cash rate target to 1.35 per cent. A cash rate is the interest rate that a central bank such as the RBA will charge commercial banks for loans. It also increased the interest rate on Exchange Settlement balances to 1.25 per cent. As a result of this action by the RBA, major banks are now raising their interest rates.

RBA explained that the reason for their increase was high global inflation, boosted by COVID-related disruptions to supply chains, the war in Ukraine, and strong demand which is putting pressure on productive capacity. Across the globe, central banks are responding to this higher inflation, although it will be some time yet before inflation returns to target in most countries.

Inflation in Australia is also high, but not as high as it is in many other countries. Global factors account for much of the increase in inflation in Australia, but domestic factors are also playing a role. Strong demand, a tight labour market and capacity constraints in some sectors are contributing to the upward pressure on prices. The floods are also affecting some prices.

The RBA says that inflation is forecast to peak later this year and then decline back towards the 2–3 per cent range next year. Inflation is expected to moderate, as global supply-side problems continue to ease and commodity prices stabilise. Higher interest rates will also help establish a more sustainable balance between the demand for and the supply of goods and services.

The RBA is quick to say that the Australian economy remains resilient and the labour market is tighter than it has been for some time. The unemployment rate was steady at 3.9 per cent in May, the lowest rate in almost 50 years. Underemployment has also fallen significantly. Job vacancies and job ads are both at very high levels and a further decline in unemployment and underemployment is expected over the months ahead.

One source of ongoing uncertainty about the economic outlook is the behaviour of household spending. Recent spending data have been positive, although household budgets are under pressure from higher prices and higher interest rates. Housing prices have also declined in some markets over recent months after the large increases of recent years. The household saving rate remains higher than it was before the pandemic and many households have built up large financial buffers and are benefiting from stronger income growth.

The RBA will be paying close attention to influences on household spending as it assesses the appropriate setting of monetary policy. It will also be paying close attention to the global outlook, which remains clouded by the war in Ukraine and its effect on the prices for energy and agricultural commodities.

The RBA says that it expects to take further steps in the process of normalising monetary conditions in Australia over the months ahead. The size and timing of future interest rate increases will be guided by the incoming data and RBA’s assessment of the outlook for inflation and the labour market.

• Topics:

• Cost Of Living
• Finance
• Living and Lifestyle