Big fiscal spenders risk higher interest rates

Reserve Bank governor Michele Bullock declared the board will remain vigilant in the fight against inflation. Picture: NewsWire / Nikki Short

It’s white-knuckle time at the ­Reserve Bank. As Michele Bullock said on Tuesday, the central bank needs “a lot to go our way” to tame ­inflation without crashing the economy.

It’s a complex balancing act right now because the signals are mixed and much of what is affecting demand in the economy is ­beyond the RBA board’s control.

One of those worrying factors is big-spending governments, with elections in sight, and voters demanding relief from persistent inflation.

It’s a rare moment when the central bank’s custodians mention fiscal policy, but they went there in their post-meeting statement after keeping the cash rate steady. “Recent budget outcomes may also have an impact on demand,” the board said, adding the caveat “federal and state energy rebates will temporarily reduce headline inflation”.

We know output and consumption growth are weak.

But, as Bullock made clear at her press conference, the problem is the current operating levels of the two: the economy still can’t supply the amount of goods and services people are demanding.

When that occurs there’s nothing stopping producers, who face higher rents, wages and energy costs, putting up their prices.

The pace of “disinflation”, meaning the descent of inflation, is taking longer than expected. Governments aren’t helping.

In the judgment of RBA economists, Jim Chalmers’ budget last month will be “slightly expansionary”.

No matter the mechanical ­effect of the $300 energy rebate on the measured consumer price index, cumulative federal spending growth of 8.1 per cent (after ­inflation) this financial year and next is not consistent with keeping demand in check.

Loose budgeting in the states and territories just makes it harder for the RBA board to stay on a “narrow path” of getting inflation back to the 2.5 per cent midpoint in 2026 without a steep rise in the jobless rate.

The March quarter national accounts a fortnight ago showed annual growth in public demand – capital works plus salaries and service costs – of 4.6 per cent.

The $23bn in tax cuts that come into play from next month will be spent by some families to stay above water, others will build up their mortgage offset accounts, and a fortunate group will keep spending.

ANZ Bank economists have calculated the fiscal easing for the coming financial year will pump another 0.5 per cent of GDP, or around $13bn, into the local economy, with the strength of government consumption one of the reasons for a three-month pushback to February in their call for the timing of the first rate cut. The next big moment for monetary calibration will come at the end of next month when the CPI for the June quarter is published.

The tone of the board’s statement was dialled up to note that the run of recent data, while mixed, “have reinforced the need to remain vigilant to upside risks to inflation”.

Looser budgets, persistent services inflation, employment growth and resilient consumer spending don’t add up to interest rate cuts any time soon.

Bullock said the journey to low inflation won’t be smooth, so ­beware of rogue data points and the bevy of fiscal spinfluencers up and about.