Why the interest rate hike doesn’t address the key sources of inflation | Samantha Maiden

The Reserve Bank’s latest move to “crush inflation” doesn’t address whether the rate hike will address the core drivers of the problem – petrol prices, writes Samantha Maiden.

One of the curious aspects of the Reserve Bank’s latest moves to “crush inflation” is that it remains an open question whether the rate hike will address the core drivers of the problem at hand.

Consider one of the biggest factors: petrol.

Short of encouraging people to carpool, raising rates isn’t going to stop people in Adelaide, Sydney, or Melbourne getting in their cars and driving to work.

Petrol consumption won’t change much whether the RBA hikes rates or not. And interest rates are not a factor in the reasons why petrol prices are higher.

Petrol is becoming more expensive. Picture: NCA NewsWire / Flavio Brancaleone

That’s a reflection of the war in Ukraine and the Middle East.

Deloitte Access Economics partner Stephen Smith argued this week that the rate hike was a mistake.

“Deviating from the herd is a lonely business,” he said.

“Most market economists and commentators spend their time focused on trying to predict what the Reserve Bank Board will do on the first Tuesday of the following month.

“That’s part of what we do too, but we also spend time thinking not just about what the board will do, but what they should do.

“With demand already crushed and wage growth contained, are further rate hikes the necessary policy lever to address inflation? Interest rates are not going to be able to address the key sources of inflation, namely rent, electricity and petrol.

“As a result, the efficacy of a further interest rate hike to tame inflation is muddy at best.”

So, what’s the bank’s rationale for hiking rates again?

Promising she “will do what is necessary” to slow inflation, the new RBA governor Michele Bullock released her reasons for the 25 basis point increase on Tuesday.

New RBA governor Michele Bullock announced a 25 basis point increase on Tuesday. Picture: John Feder/The Australian.

“Inflation in Australia has passed its peak but is still too high and is proving more persistent than expected a few months ago,’’ she said.

In other words, inflation is coming down but not fast enough.

“The latest reading on CPI inflation indicates that while goods price inflation has eased further, the prices of many services are continuing to rise briskly,’’ she said.

“The Board judged an increase in interest rates was warranted today to be more assured that inflation would return to target in a reasonable time frame.”

The Board had held interest rates steady since June following an increase of 4 percentage points since May last year.

“Since its August meeting, the Board has received updated information on inflation, the labour market, economic activity and the revised set of forecasts,’’ she said.

“The weight of this information suggests that the risk of inflation remaining higher for longer has increased.

“Underlying inflation was higher than expected at the time of the August forecasts, including across a broad range of services. Conditions in the labour market have eased but they remain tight. Housing prices are continuing to rise across the country.”

As is customary she issued the standard warning about doing “whatever it takes”.

“Whether further tightening of monetary policy is required to ensure that inflation returns to target in a reasonable time frame will depend upon the data and the evolving assessment of risks,’’ she said.

“In making its decisions, the Board will continue to pay close attention to developments in the global economy, trends in domestic demand, and the outlook for inflation and the labour market. The Board remains resolute in its determination to return inflation to target and will do what is necessary to achieve that outcome.”

Worryingly for homeowners, there are predictions that rates will also remain higher for longer than expected.

“We don’t expect any easing until Q4 2024. The risks for the outlook are towards sticky inflation rather than a concerning drop in activity,’’ the ANZ bank said.

Rising interest rates are affecting mortgage holders across the country.

The savage round of interest rate rises inflicted on homeowners by the Reserve Bank is now stinging the average mortgage holder in Sydney up to $60,000 a year in annual payments.

In Adelaide, the average is $767 a week or $39,884 a year. But the real pain is on how far and how fast it has risen.

In Sydney, the average mortgage holder is now paying an extra $20,000 a year compared to 2021.

According to the latest figures, the average mortgage in Sydney is an eye-watering $725,000.

Based on a standard variable rate, that homeowner was already paying $4,819 in monthly payments before today’s rate rise or $57,828 a year.

Almost half of Australia’s mortgage holders are now in financial stress according to experts and are currently paying at least one third of their income to service their loans.

And there could still be one more rate rise in the RBA’s plans before relief arrives later next year, suggesting it could get worse before it gets better.