Australian stagflation

Late last week, the venerable Melbourne Institute released its Monthly Bulletin of Economic Trends. In it, the economists of the institute predicted that Australia is headed back to the seventies with a bullet:

Policy dilemmas ahead …
In contrast to other forecasters, we have cautioned for some months now that GDP growth is likely to be modest, that headline inflation is likely to be close to the upper end of the official target band and that employment prospects are likely to remain subdued in 2011. Similarly, our moderate growth forecasts for 2012 have previously also put us at odds with other analysts but the view of a moderate economic outlook for this year and next is now spreading.

According to Dr. Edda Claus, “the current economic climate poses policy dilemmas for the government: First, a low growth high inflation scenario can be a problem for a Central Bank committed to the practice of inflation targeting.  Tightening monetary policy to rein in inflationary pressures may choke off growth while loose monetary policy to support growth may generate more inflationary pressures.

Second, this policy dilemma is aggravated  by international financial woes.  While Australia’s debt to GDP ratio is low, the developing sovereign debt crisis in Europe and the US may translate into higher inflation in Australia.

Third, the surge in commodity prices have improved Australia’s terms of trade and the A$ is currently very high. The mining states (especially WA) have benefited significantly, but states with a high manufacturing base  are experiencing the negative effects of a strong currency.”

It is true. The Institute economists have been ahead of the curve in predicting weak growth, along with MB. But this is a new take on that forecast and not without merit. The Institute now has 1% GDP forecast for 2011 and headline inflation of 3.4%, both of which look reasonable to me.

Remember the phrase: Inflation in everything you need, deflation in everything you own.

This spaz economy has the RBA Audi 5000 to dip a nasty bogue. You dig it, man?

Houses and Holes
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  1. Not a good prospect for mega mortgage mugs. Somehow it doesn’t square with Bill Evans’ rate cut call.

    Has anyone noticed the uptick in the auction rate clearance last Saturday? What are your thoughts? According to REIA it’s due to vendors becoming more realistic but it’s also possible that the MSM rate cut calls could have encouraged a few sitting on the fence to jump and buy. It will be interesting to see if the trend continues but the CPI on the high side can throw a spaner in the works.

  2. FrankieFourFingers

    It is interesting that bond yields are sitting 0.5% lower than bank bill rates.

    I am thinking the big players are getting very nervous about the end of govt guarantees.

    If the govt reneges on guarantees for retail investors there will be another bank run.

  3. We already have high inflation masked by a high dollar.
    Future inflation is almost a dead cert as domestic inflation will no longer be masked by lower import prices.
    Debt levels as they are!
    There is only one outcome.
    Despite my logical certainty I have been known to be worng!

  4. ‘Inflation in everything you need, deflation in everything you own.’

    That’s a great summary!

  5. The_Mainlander

    This is the most worrying article on MB for 2011 so far.

    ‘Inflation in everything you need, deflation in everything you own.’

    H&H hit the nail on the head totally agree with you Flawse.


  6. “According to Dr. Edda Claus, “the current economic climate poses policy dilemmas for the government: First, a low growth high inflation scenario can be a problem for a Central Bank committed to the practice of inflation targeting. Tightening monetary policy to rein in inflationary pressures may choke off growth while loose monetary policy to support growth may generate more inflationary pressures.”
    +1. Though commentators like Shadow like to argue otherwise, RBA has painted itself into a corner with the formal inflation target objective. But this is exactly how I prefer the RBA to carry out monetary policy 🙂
    “While Australia’s debt to GDP ratio is low, the developing sovereign debt crisis in Europe and the US may translate into higher inflation in Australia.”
    On the face of it, Aussie public debt to GDP ratio is low.
    But pre-GFC, even Ireland had a low public debt to GDP ratio of 25%. Post-GFC, it shot up to 94%.
    What happened? Did the Irish dole-bludgers get million $ handouts? No.
    Did the Irish banksters get bailed out? Yes.
    Basically, private debt (held by the banks) got socialized into public debt.

    • Federal Australian government debt is currently 22% of GDP and rising (i.e government is in deficit mode for at least 12 months, more likely 24 months or more).

      Ralph Norris got out at the right time.

  7. Inflation in everything (you need to buy). Because everyone will “need” pay rises. What, no bubble in wage& salary compensation?

    To the ’70’s with a bullet/ What about overshoot-60’s or my fav-50’s?

    Wags,stags, lags and gulags.

  8. Most of the forces that are influencing the Australian economy are emanating from overseas. Growth, such as it is, is being propelled from abroad, as is the inflation of commodity prices in general. The level of the currency and the behaviour of the credit markets is also being conditioned by the workings of global markets.

    We should be taking a less Oz-centric view of things.

    In a general sense, it is not correct to characterize the global economy as being in a stag-flationary cycle. It is more accurate to say there is very uneven growth and that prices are also exhibiting uneven trends.

    There is strong growth in parts of the global economy, contraction in others and low-velocity expansion in large parts of the industrial sector. There was a significant (upwards) recoil effect in prices of many commodities through 2010 and into the early art of 2011. But the rate of increase has tapered away (or reversed) notably in recent months, probably reflecting the end of QE2.

    The rise in the price of commodities, being mostly denominated in USD, simply reflects the depreciation of the USD. If the USD were to regain its relative value, the nominal prices of many commodities would almost certainly retreat. In this sense, QE2 has been counter-productive in the US. It simply stimulated a nominal rise in commodity prices – especially energy – sapping the purchasing power of US households and helping arrest the expansion that had been occurring through 2010. This points to the very limited utility of monetary policy in the current circumstances.

    It is also notable that markets for many commodities are supply-constrained in the short-run, and that prices have climbed much more quickly than final demand. The world just does not have buffer capacity for very many of the major commodities. This situation is likely to sustain prices at high levels for the foreseeable future as long as global growth remains around its present 5-6% pa rate.

    The real problem in all this is the hollowing-out of the US economy. This has been going on for a very long time and has only been exacerbated by the GFC.

    The US is now running a very large public sector deficit and an ultra-easy credit policy, and yet output growth is close to stalling along with jobs growth and household incomes.

    It seems it is no longer possible to use either fiscal or monetary measures to stimulate demand in the US, and yet it is not possible to pursue revisionist (contractionary) measures either. Since it is not possible to run hyper-deficits for long, something will eventually give way in the US. Either expansion will resume – in keeping with its cyclical character – and fiscal repair can occur gradually, or policy revision will tip the US back into contraction. We cannot say yet which of these paths is more likely.

    In relation to Australia, it is not accurate to say we are experiencing anything resembling the inflationary circumstances of the 1970’s, when both unemployment and inflation soared to historically high levels at the same time along with interest rates and public sector spending.

    We have decelerating inflation and moderate expansion of the economy. We are experiencing significant real gains in national income, stable real labour costs and unemployment, a rising savings rate and muted credit creation. It is true these things can and will change. But they in no way resemble the imponderable contradictions on the 70’s.

    • I really like your ‘gentle’ debunking where necessary and quietly positive objective analysis. Good work – you would make a find guest contributor to MB.

    • I really like your ‘gentle’ debunking where necessary and quietly positive objective analysis. Good work – you would make a fine guest contributor to MB.

        • I agree with Fanboy (aka 3d1k). A thoughtful and balanced comment, unlike the lunatic ravings of someone like myself 🙂

          However I don’t completely agree with you on one point…

          The rise in the price of commodities, being mostly denominated in USD, simply reflects the depreciation of the USD

          IMO, your take is too US-centric.

          Commodity prices are also rising in AUD terms, but more modestly. Commodity prices, especially iron ore and coking coal, are also being driven by China’s runaway investment boom.

          So there’s more happening here than just USD depreciation.

          • Add to that Grantham’s view that the price trend into the future for many commodities is unlikely to significantly decrease – a pivotal change in terms of growing resource depletion.

    • Jeez, you can’t make a joke on this site. That’s what you get for creating an evidenced based culture.

      It may be that the wild gyrations of the seventies business cycles are not a precise analog. But the point of the Melbourne Institute piece is that there is nonetheless an approaching policy quandary that is quite plausible – above target inflation and below target growth. That is stagflation, even if not seventies stagflation.

      And, it’s still a bummer.

  9. Good article.

    Stagflation, indeed.

    On another note…

    I was just viewing MB articles with the standard MB wordpress theme, which worked just fine…but I have now read this article and it is in a mobile format, which is fine, but the comments won’t show up when I click them…

    • …oh, and now that I’ve posted a comment, it’s gone back to the non mobile theme, and I can see the comments as per normal…weird!

    • …I need to correct myself…..not quite stagflationary…is missing the high umployment aspect….jus waiting for that, unfortunately…

  10. Phew I thought it was just my phone (iPhone 4) Hopefully the MB guys are aware of it. Been going on for over a week now. Comments won’t expand in mobile theme and constantly switches between mobile theme and regular theme without my prompting.

    Any MB bloggers know what is going on?

    • No idea what is happening – comments weird for a week or so – have to refresh pages regularly to get comment updates. Hopefully in the process of being fixed.