A lot of the discussion last week about whether Labor’s amended stage three tax cuts package would be more inflationary than the original version centred on how low- and middle-income earners are more likely to spend their tax cut than save it, as high-income earners would.
While that difference is both intuitive and backed up by evidence, there’s also a definite air of moralising in some economists eagerly pointing out that the wealthy would do the right thing and bank their tax cut, compared to the profligate poorer sections of society who just can’t help blowing extra income on such indulgences as food, rent, mortgages, clothing, rail fares, buses and petrol.
But like the rigid ideological belief that it’s workers’ wages that are the problem with inflation, just how accurate is the view of economists, the Reserve Bank and the galahs at the Financial Review that tax cuts for lower-income earners are inflationary, and that the only way to deal with inflation is to choke off demand by preventing consumer spending and smashing economic growth? Surely it’s simply a matter of mathematics?
Except, the latest bout of inflation doesn’t seem to be conforming to the rigid ideology of those determined to blame workers and consumers for inflation that commenced with global supply-side problems and a Russian-induced energy price spike and continued with corporations exploiting weak competition to increase margins. In particular, the experience of the US economy is defying this conventional wisdom.
The US Federal Reserve responded to the inflation spike by lifting interest rates to slow demand and consumption, starting the process in early 2022. A recession and higher unemployment were widely forecast, even longed for, by some economists. But 21 months later, things are very different.
Last week, the US Bureau of Economic Analysis said American GDP rose at an annual rate of 3.3% in the December quarter. While this was down on the 4.9% annual rate in the September quarter, it was much faster than any forecaster had predicted, with most projections between 1.5% and 2.0%. GDP in the final quarter of 2023 was 3.1% higher than in the same quarter of 2022, and growth through the year was 2.5% (real) against 1.9% in 2022.
What’s driving such buoyant growth? American consumers: Moody’s economists pointed out that “behind the US economy’s impressive performance is consumer spending, adding 1.9 percentage points to growth, nearly as much as the prior quarter”. Unemployment remains below 4%. And while wages growth moderated in 2023 from the previous year, it still averaged 7% for all workers.
And yet all that growth has happened without any significant inflationary damage — the consumer price index in December of 3.4% was more than half the 8.3% rate at the end of 2022 and the 9.1% peak in June of the same year.
If there’s such a strong link between high worker incomes, the additional demand that generates, and inflation, how has the US under Joe Biden dramatically reduced inflation while US workers have had strong wages growth and spent up a storm?
It’s true the Fed has had interest rates higher for longer than the Reserve Bank here. But the US also has a deteriorating budget deficit, adding further to demand, while Australia is headed for its second surplus in a row. Strong wages growth, a worsening budget deficit, consumer-led growth in a booming economy — and all while inflation has fallen sharply.
It couldn’t be that that rigid orthodoxy about workers and consumers — especially the ones who have the unmitigated gall to be low-income earners — causing inflation isn’t the whole story?
Don’t hold your breath waiting for the Reserve Bank to explore why.
The ‘generals’ who fight the war on inflation resemble those military generals notorious for stolidly preparing to fight the last war, only to be amazed and baffled when they find the next war is very much different.
As a life member of the IPA, I believe that the answer to inflation is not to pay
peasantsworkers anything. All that the lower classes need is a shelter with a trough for their food at the front, and another trough for their waste at the back. When breeding season comes around, they may require nesting material. These pens or stalls could built cheaply and efficiently, along the same lines as the farms where we raise pigs and chickens. For amusement, a large television could be placed at the end of the barn showing re-runs of Sky After Dark. This will keep ourpeasantsworking class from using their brains for purposes other than work and it will also maintain their docility. They should also be allowed posters of wealthy people in order to be reminded that their efforts are going to reward their betters.Great post Frank Dee, you might get a call to be a commentator on Sky After Dark. Or an advisor to Peter Dutton!
In other words, the fine old tradition of keeping slaves, serfs, peons etc.. If it was good enough for the Babylonians, Egyptians, Romans, Greeks, Vikings, the empires of Britain, Russia, China, Spain, Portugal, Belgium and so on, and just about every other civilisation throughout history, why shouldn’t the better sort of Australians today enjoy its benefits openly and legally too?
Agree, though would add cost driven inflation amplified by oligopolies taking opportunities. America does have a more diversified economy and, shock horror, in some places competition policy. But overall yes, if inflation is too much money chasing too few goods, you can either reduce the money or increase the supply of goods. The latter will give you a soft landing.
The simple reason why inflation is falling even though consumer demand remains relatively strong is because it is cost driven inflation not demand driven inflation. Something this 20th Century Reserve Bank has never understood. The pandemic and the Ukraine war caused a huge supply dislocation which we are still working through. But our RBA in their stupidity and ignorance have kept increasing interest rates despite the fact that higher interest rates increase the cost of doing business which leads to price increases. The RBA cannot control the price of petrol, electricity and gas, insurance or rents. But rate increases have ensured higher wage demands and higher rents. They should be cutting now.
Sorry this comment belongs here, not with Frank Dee, though plaudits to his satire.
Agree Malcolm, though would add cost driven inflation amplified by oligopolies taking opportunities. America does have a more diversified economy and, shock horror, in some places competition policy. But overall yes, if inflation is too much money chasing too few goods, you can either reduce the money or increase the supply of goods. The latter will give you a soft landing.
Agree entirely AP7. The US is far more aggressive in curbing monopoly power. If we had any desire to end the cosy duopolies we’d start by forcing Qantas to sell off Jetstar and telling Coles and Woolworths to reduce their market share to a maximum of 25% each. And so on.
Why is the story not?: Neoliberal market economists are ALWAYS wrong and have been consistently so for 40 years.
Of course the Right Wing and its media support huddle go into a frenzy over any attempt to look after thehoi polo. Money / largesse should only go to the already rich.