RBA versus Treasury - Bullock to serve….

Treasurer Chalmers, seemingly fuelled by too much caffeine, has recently made a series of ironic accusations, blaming the RBA for problems that are in reality a direct result of years of interventionist government policy.

Conversely, Governor Bullock has been doing an admirable job managing the monetary plumbing of Australia, skilfully pulling the right levers to achieve the Reserve Bank's objectives.

In her recent speech to the Anika Foundation, she eloquently explained why Aussie inflation remains high, highlighting the significant contribution of housing and, more importantly, market services to inflation.

However, it’s clear that Treasurer Chalmers and his government don't fully grasp the situation or the role they’re playing in keeping inflation elevated.

Below is a chart from the Governor’s speech, along with some commentary.

Source: RBA, Speech by Governor Bullock to Anika Foundation fundraising luncheon, 5/9/24.

What does it mean?

Market services, which we can liken to non-tradable (NT) inflation—driven by domestic factors like electricity, insurance, rents, and wage growth (as illustrated by the blue line in the chart)—are still increasing. This is a direct signal that fiscal policies, particularly those involving excessive government intervention, unionisation, and spending—are adding fuel to the inflationary fire.

In contrast, tradable (T) inflation, influenced by global factors (shown by the yellow line), has subsided as international supply chains/goods have pretty much healed, leaving almost all of our inflation as homegrown, as I’ve written about before.

This ongoing non-tradable inflation is a clear consequence of the government's heavy fiscal footprint. By trying to redistribute wealth—while not an issue in itself—the government is doing so in a way that’s highly inflationary, particularly through increased spending on programs that drive up energy prices (albeit masked with time-fused subsidies), market services, and labour costs.

It’s this combination of fiscal policies and missteps that is making the RBA’s monetary task, significantly harder.

Where does the Treasurer stand?

Instead of working to reduce fiscal spending, Treasurer Chalmers continues to pursue highly interventionist policies, which is only prolonging inflation. If he were to ease up on fiscal largesse, we could return to target inflation levels much sooner. But by exacerbating non-tradable inflation, particularly in market services and wage growth, his approach is counterproductive.

Governor Bullock has thus far done a masterful job of navigating these challenges, but until the government rethinks its economic strategy, the RBA’s ability to control inflation will remain limited and blunt-instrument (interest rates) in nature.

The Treasurer’s redistribution policies, while politically motivated, are directly contributing to inflationary pressures and extending the timeline for achieving price stability.

What now?

With a more balanced RBA board after recent reforms, I, for one, take very seriously what Governor Bullock has indicated in terms of which leg of the dual mandate her board will be prioritising. As she noted:

“The Board is seeking to balance reducing inflation in a reasonable timeframe and maintaining as many of the gains in the labour market that we have seen in the past few years as possible. Ultimately, though, it is crucial to remember that our full employment goal is not served by letting inflation stay above target indefinitely.”

Corporate Australia is responding. Last week, I saw a significant bond issue priced with a higher yield than expected—an indicator that, even with a pause in official rates, the big end of town anticipates tighter conditions for longer and is thus competing for funds by offering a higher premium.

Final thought

Governor Bullock has demonstrated exceptional leadership in navigating challenging circumstances. If the government were to pull back from its inflationary fiscal policies, the RBA's task of controlling inflation would be significantly easier, likely leading to a quicker return to target. However, as long as Treasury continues on its current path, the RBA will face greater difficulty in curbing inflation within a reasonable timeframe. This approach will (a) prolong the financial strain on households, while (b) extending the wealth effect for savers and bondholders. Hello?

See you in the market.

Mike