The post-Q3 CPI sell-side and (typically well informed) media chatter baffled me.
First of all, it seemed to confuse inflation — a general rise in the price of goods and services — with rising prices. They are not the same thing.
Inflation is not an increase in the cost of living. At least not the sort of inflation that monetary policy might control.
Central banks control the money supply, and the inflation we mean when we talk about policy is a decrease in the value of money due to its excess supply relative to the production of goods and services. Money and credit aggregates are growing very slowly (even more sub-trend than real output) so I cannot see signs of an excess supply of money as a cause of inflation.
For those who want more on this important distinction, i recommend this Fed Lockhart speech.
Looking through the CPI report, I see evidence of tax increases, and a food price spike. They’re all cost of living increases. The RBA doesn’t control taxes, or means testing of benefits, nor does it grow food — so nothing they do with rates will change that.
If they thought the labour market was tight and that workers might negotiate compensation for cost of living increases, they might tighten (or not ease) to prevent these second round spirals from getting started — but we know that the labour market is both slack and weakening, so they are unlikely to be worried about that!
The most obvious thing to ignore is the 10.2%qoq increase in fruit and vegetable prices. This has nothing to do with policy. In addition to this, there is a further 10bps contribution to headline CPI from changes to eligibility for health rebates (medical was +4.5%qoq). Both of these changes are increases in the cost of living which will lower real demand. Easy policy didn’t make these prices rise — the RBA doesn’t control the weather, and it doesn’t collect taxes.
The indirect carbon tax rise is hard to be sure of, but the direct effect is easy to spot — it’s the 12%qoq rise in utilities prices (+50bps to the qoq increase). While only about half of this is due to the carbon tax, the long-standing gold-plating of investment by state governments to ‘game’ the regulator’s pricing determinations also amounts to an ongoing tax increase — this isn’t investment due to higher demand, it’s investment to game bad regulation.
Utilities is the largest part of the ongoing ‘sticky’ non-tradable inflation non-puzzle.
We can also see the carbon tax’s shadow in the 6.6%qoq increase in air travel prices (adding 15bps to headline CPI).
We cannot be sure about the carbon tax, and the second round impacts, so perhaps there is a case for waiting for more information before easing further — but ‘accelerating’ core inflation is not a good argument.
The main reason it’s a BAD argument is that inflation is NOT accelerating.
The RBA judged that the carbon tax by itself would add 25bps to core CPI, and that it would be added in H2’12. Let’s assume that the inflation bias is split 20bps in Q3 and 5bps in Q4.
So right away, that 0.7%qq for the trimmed mean is 0.5%q/q — which happens to be slower than the revised Q2’12 estimate, and at the same level as the first Q2’12 estimate.
Now we should also take some off this number, to account for the bias from the other policy changes and the fresh food price shock.
If you walk with me this far, you ought to be able to see that underlying inflation was 0.4%qoq to 0.5%qoq in Q3. That’s below target for the RBA.
And that’s what we should expect given the the terms of trade are falling and that the unemployment rate is rising …