Inflation has surged to a 21-year high. What is it and why does it matter? 27 July 2022
With the cost of living on the minds of Australians as the Consumer Price Index soars to 6.1 per cent, SBS News asks an economist some of the most frequently asked questions about inflation.
Inflation is on the up in Australia
Australia has recorded its worst
inflation outcome in more than two decades,
paving the way for higher mortgage and
lending rates.
Headline annual inflation jumped to 6.1
per cent year-on-year in the June quarter — the highest rate since the June
quarter of 2001 when it rose by the same figure. It's also higher than
the March quarter result of 5.1 per cent.
Fuel and property prices have been some of the biggest contributors to the rise
in inflation, and blame has been laid on
factors including the COVID-19 pandemic and Russia's invasion of Ukraine which
have caused supply chain issues.
It comes as the Reserve Bank of Australia (RBA) has been hiking the official
cash rate - which influences how banks set their interest rates - in a bid to
curb inflation down to its 2 to 3 per cent target band.
Inflation has hit a high this century.
After three consecutive hikes,
the official cash rate currently sits at 1.35 per cent, up from a record low of
0.1 per cent in April.
"The Reserve Bank of Australia is pressing on with its most aggressive
tightening cycle in history, and the June-quarter inflation print will likely
cement in a hike of at least another 50 basis points for August," Moody's
Analytics said ahead of the inflation data release.
The RBA tips inflation to hike further and is expected to reach seven per cent
by the end of the year.
The key word — inflation — has been at the top of the agenda in Australian
politics this year. But what does it actually mean?
Treasurer's inflation warning as Reserve Bank again hikes rates in battle to curb it
What does inflation mean?
Economist Matt
Grudnoff, from the Australia Institute, described inflation as the "ongoing
increase of prices".
"What's important is it has got to be
the ongoing increase," he told SBS News.
"For example, if petrol prices go up as
they have, that causes inflation. But if petrol prices stopped going up and
flattened out, even at the higher level, then actually, that doesn't cause
additional inflation. That's a one-off thing."
What causes inflation?
Mr Grudnoff said
inflation can be caused by either supply or demand-driven factors. Currently,
the war in Ukraine and the effects of the pandemic are causing supply-driven
inflation.
"Inflation at the moment is being caused
by supply chain
issues," he said.
"During the pandemic, people swapped from buying services to buying goods
because services often involved face-to-face interactions.
"Goods require
transportation, whereas services don't. For example, if you go and get a haircut
or you go to the movies, you travel to the place. But if you buy stuff, then
that requires shipping, often from overseas.
"And so what happened was transport links got clogged up with the extra demand,
and things slowed down, so they increased their prices.
Mr Grudnoff said rising oil prices have
had a significant impact on the overall cost of living and the effects of
climate change have also been a factor.
"Flooding in Australia has caused groceries — famously, lettuce — to also
increase in price," he said.
Are there different types of inflation?
The term
inflation can actually mean several things. For example,
it can refer to the devaluation of a
currency. But generally speaking, it's used to talk about the CPI.
"We tend to think about inflation as the Consumer Price Index," Mr Grudnoff
said.
"That's the increase in the price of stuff consumers tend to buy and use.
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Mr Grudnoff said the CPI only measures things that are consumed after being bought — not investments like property, adding: "If house prices, which are mostly driven by the increase in the price of land, are going up, that's not actually going to add to inflation at all, because it's not considered a consumer product, it's considered an investment."
Is inflation always considered a bad thing?
While inflation is often perceived as a
bad thing, Mr Grudnoff said if it's not too high, it is a sign of a growing
economy.
"Some inflation is good," he said.
"In fact, if we had no inflation, the Reserve Bank and the government would
probably step in to try and stimulate the economy, because no inflation is
usually associated with really slow or no economic growth.
"What we don't want is some large unexpected increases in inflation. That's when
we get worried.
"But ongoing steady inflation is not a problem. And it's actually considered
desirable."
What is the Reserve Bank and how does it deal with inflation?
The RBA is an
independent central bank that is accountable to federal parliament. It regulates
loaning rates for other banks. Mr Grudnoff said that, by adjusting interest
rates, it can influence supply and demand which, in turn, deals with inflation.
He said it acts as the government's bank, is only able to deal with the
government and other banks, and ensures the system remains stable.
"The most important thing, in terms of inflation, is they use monetary policy,
which is increasing or decreasing interest rates in order to do a number of
things," he said.
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Mr Grudnoff
explained that if the economy is doing well, there's lots of demand.
"If you've got a business, suddenly, you're getting lots of demand for your
stuff. Labour begins to get tight, but people are still banging on the door
wanting your goods, you'll tend to put your prices up," he said.
"If all businesses do that, we have inflation. So that excess demand is the
thing that's driving inflation.
"What the Reserve Bank does is they put up interest rates.
"And, the increase in interest rates means that the portion of the Australian
public that have a mortgage now have to spend more on their mortgage.
"They pay more interest, so they have less money to spend on everything else. So
suddenly, they're demanding less stuff.
"So the time when demand is growing and causing inflation, the Reserve Bank
brings in interest rates to try and reduce that demand, and therefore reduce
that inflation."
So effectively, increasing interest rates decreases demand in the economy.
How is Australia comparing to other G20 countries?
While
Australia's levels of inflation are high compared to the country's recent
history, Mr Grudnoff said inflation is
relatively low compared to other countries in the G20 who are also dealing with
the impacts of the pandemic and war in Europe.
The G20, or Group of Twenty, is an intergovernmental forum comprising 19
countries and the European Union (EU). It works to address major issues related
to the global economy, such as international financial stability.
"If most of the inflation has been caused by these kind of world shocks, it's
not a surprise that most countries are experiencing high levels of inflation,"
Mr Grudnoff said.
Inflation in the G20 runs from 78.6 per cent to 2.3 per cent.
"If we look at
the G20 countries, Australia is near the bottom.
"Most of the G20 are actually higher than us. So we don't have as stronger
inflation as the rest of the world."
But if you look back over Australia's history, inflation is quite high at the
moment. For quite some time, we've kind of been used to inflation between about,
over the last 10 years, less than 2 per cent.
"Supply shock inflation usually has a
one-off effect on inflation. So, if the oil price goes way up, and petrol prices
go up, and then they stop going up, because there's nothing driving them
further, you have a spike in inflation.
"But then it goes away, because there's nothing to push that inflation ever
higher.
"So there might
be a very good argument at the moment that the Reserve Bank doesn't need to
react particularly strongly to this kind of inflation.
"This inflation will actually wash its
way out by itself."