end Australia’s decade in economic slump


Yet, while the pre-pandemic decade was bad for the Australian economy, the policy response to the pandemic changed the baseline. The future looks very different.

In other words, if inflation continues at higher levels, we should expect the real side of the economy to have improved: more demand, more jobs, and more investment. »

The Reserve Bank of Australia is halfway through what will likely be its highest interest rate tightening cycle since the late 1980s. This naturally raises concerns. Inflation is too high and is particularly damaging for people on fixed or low incomes.

However, the RBA would like some of the rate hike to be permanent. If monetary policy can generate 2.5% inflation over time, rather than the 1.5-2% that characterized the pre-pandemic period, it is not just the rate of inflation that will be different. . Many others will too.

This cycle reveals the forces that have emerged during the pandemic: unemployment is the lowest in five decades, the volume of consumer spending has increased by 9% above pre-pandemic levels and capacity utilization in the corporate sector has been restored to pre-GFC highs.

As a result, capital spending plans for the year ahead are about the highest in nearly three decades.

In the pre-pandemic decade, Australia was deficient in these areas. Unemployment and the less visible but just as corrosive belowemployment were too high. Household income growth has therefore been weak. So low in fact that real average earnings in 2020 hadn’t budged since 2012.

Tax policy

The resulting weak consumer demand meant that the “need” – the most crucial ingredient of business investment – ​​was lacking. Excess request, and the resulting lack of production capacity, is a prerequisite for investment. In that sense, there wasn’t really an investment headache before the pandemic. Companies had no reason to invest.

Research from the Bank for International Settlements, the BISsuggests that the inflationary effect of budget deficits depends on the functioning of fiscal and monetary policies, but also on their interaction.

They have their greatest impacts when fiscal policy dominates and when both are unrestrainedly focused on short-term goals rather than medium-term sustainability issues.

The role of wages in maintaining higher inflation is well known, but wage growth does not occur in a vacuum. To employ more people, give more hours to those working part-time, and increase wage growth, companies must see demand strong enough to pay for labor. Some of the additional labor expense will be passed on to higher selling prices. The need to invest more in labor will likely go hand in hand with more capital investment.

In other words, if inflation continues at higher levels, we should expect the real side of the economy to have improved: more demand, more jobs, and more investment. This will result in a more balanced economy and stronger economic growth, at least for a while. Nominal GDP could be on average up to 1 percentage point higher than it was during the pre-pandemic period.

The household sector is also in its best shape for two decades. Overall household debt, net of liquid assets, is the lowest in 15 years. The RBA suggests that about 70% of the increase in household cash reserves came from households with mortgage debt.

Larger buffers

Households in the top 20% of debtors have accumulated the largest reserves. In addition, the share of mortgage debt held by the most cash-constrained households has almost halved since the early 2000s.

In the policy choices made by many economic decision-makers before the pandemic, it was implicit that excessive unemployment was preferable to excessive inflation. One would expect a rise in inflation to quickly enter expectations and take root.

It doesn’t hold. Unemployment also impacts the many and can easily take root. Unemployment, underemployment and the inequalities they engender affect all macroeconomic outcomes.

Inequalities are often rooted for a range of socio-economic reasons. The The United Nations suggests that inequality is not only driven and measured by income, but is determined by other factors – gender, age, origin, ethnicity, disability, sexual orientation, class and religion”.

Those with higher incomes tend to save more, which reduces their consumption, but those with lower incomes tend to borrow more. In other words, inequality tends to slow economic growth and exacerbate financial vulnerability.

The Federal Reserve Bank of San Francisco found that rapid growth in the income share of the top 10% of earners and prolonged low labor productivity growth are strong predictors of financial crises.

The policy faces some challenges over the next 12 to 18 months. It’s inevitable, but some structural changes will be very helpful to Australia. Let’s keep an eye on the horizon – better times lie ahead.

Richard Yetsenga is Chief Economist at ANZ

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