Next week’s rate hike will be both remarkable and unremarkable; the ninth in as many meetings, but fully expected.
But the air around the Reserve Bank and monetary policy is more charged than it has been in decades – not only is the house at Martin Place about to be renovated, the basis of monetary policy itself is on the line.
On New Year’s Eve the former chief economist of the IMF, Olivier Blanchard, unleashed a Twitter thread that lobbed a rock into the economic pond, kicked off a global debate and could change the course of the RBA review that’s now under way.
He began with this statement: “Inflation is fundamentally the outcome of the distributional conflict between firms, workers and taxpayers. It stops only when the various players are forced to accept the outcome.”
This was a direct contradiction of Milton Friedman’s aphorism that inflation is “everywhere and always a monetary phenomenon” – that is, it’s caused by excess money supply and demand, which has guided economic and monetary policy for 50 years.
Blanchard went on to say that it’s typically left to central banks to force the players in the conflict to accept less, and thus stabilise inflation.
“By slowing down the economy, it can force firms to accept lower prices given wages, and workers to accept lower wages given prices.”
But, Blanchard asserted, this is a highly inefficient way to deal with the conflicts, and therefore inflation.
“One can/should dream of a negotiation between workers, firms and the state, in which the outcome is achieved without triggering inflation and requiring a painful slowdown,” he concluded.
Sit down, we can’t see
Nobel Prize winner and New York Times columnist Paul Krugman quickly weighed in with a football analogy: When the game gets exciting, people start standing up, and then everyone has to stand up so they can see.
Inflation is like that, says Krugman, with “standing up” analogous to raising prices, and you can either make the game/economy less exciting with higher interest rates, or persuade the people in front to sit down so everyone else can see.
That’s now the question facing central banks, as they weigh up whether to cause a recession to eradicate inflation.
The Reserve Bank is about to hammer Australian families with a ninth rate hike in a row, an unprecedented and brutally personal response to something Blanchard says is the result of distributional conflict and Krugman says is spectators standing up. That is, it’s not caused by excess demand that can be easily suppressed by higher interest rates.
Last July, I wrote here that the Reserve Bank is “a renovator’s delight”, adding that the members of the panel reviewing it may be seen as the architects hired to plan the restoration.
In his essay in The Monthly this week, Treasurer Jim Chalmers wrote: “I will renovate the Reserve Bank, responding to the RBA review.”
It’s one thing for a mere columnist in The New Daily to talk about renovating the RBA, but it’s another thing entirely for the Treasurer to say it. A shiver would have run through Martin Place on Monday morning as those words from Jim Chalmers flew through the internal email system.
While it’s gratifying to have one’s language picked up by the Treasurer, albeit without attribution, we’re a long way from understanding whether the renovation will be just a new kitchen and bathroom or full knock-down of the back and a new double-storey extension.
The terms of reference for the review leave it wide open, as you’d expect, and while the issues paper published by the panel in September leans more towards the former than the latter, they were just getting started then, so naturally cautious.
The 78 submissions that have been published range from learned dissertations on monetary policy, such as that of former deputy RBA governor Stephen Grenville, to Robin Pope’s brief plea that she be appointed to the panel (she says former Treasury secretary Ken Henry had been her student and that “joy brimmed” about the panel).
Meanwhile, the global debate about inflation and monetary policy continues in parallel and many of the submissions echo it.
As a contribution to this debate, US economist Tim Barker used the American Freedom of Information Act to get hold of a memo written in 1996 by the current US Treasury Secretary and former Federal Reserve chair, Janet Yellen, to then Fed chairman, Alan Greenspan (at the time 50-year-old Yellen was working at the Fed, on leave of absence from the University of California, Berkeley).
Basically, Yellen explained that low interest rates (and therefore, economic expansion and lower unemployment) are contingent on the radical post-1970s “decline in workers’ bargaining power”.
Workers’ bargaining power continued to decline after 1996, and was largely responsible for inflation not bouncing back after the GFC and pandemic, which had a dramatic impact on monetary policy, especially the actions of the RBA.
Having gone into the pandemic with the cash rate at the historic low of 0.75 per cent, Governor Philip Lowe felt he had to add to the three rate cuts that were available to him by sort of promising to leave the cash rate at 0.1 per cent for three years. It rebounded on him horribly in 2022 and now underpins the renovation, as it were.
The war in Ukraine produced an energy supply shock that has lifted inflation even though wages are still not rising – because workers’ bargaining power has still not recovered.
‘Upper-level extension’
Adam Tooze, author of the Chartbook newsletter and professor at Columbia University, says the “struggle” referred to by Olivier Blanchard is really between different groups of producers over the size of their mark-ups and how much they can pass through to their customers, not between businesses and workers.
“To call this kind of cost pass-through “conflict inflation” is to stretch what classic political economy or sociology intended when it referred to conflict.”
When price surges rip through the budgets of poor people, says Tooze, unleashing the discourse of a cost-of-living crisis, the politics are those of welfarism and redistribution, not power and control.
Yes, but maybe it doesn’t have to be.
The Australian Labor government is using power and control to cap gas and coal prices; it’s working, despite the wailing of producers.
And that’s the point: Cost-of-living crises must be handled with welfarism and redistribution because neoliberalism has resulted in companies having more power than governments, so that governments won’t even try to tell to them “sit down in front” – that is, reduce their margins, and prices.
Olivier Blanchard has done the world a service by putting this on the economic agenda, and it would be great if the RBA Review panel incorporated his ideas into the renovation design, and doesn’t just suggest a new kitchen and bathroom.
Let’s have a sort of “upper-level extension” to the fight against inflation – one that includes price control, not just the misery of more unemployment and mortgage stress from higher interest rates.
And maybe that could incorporate the main point of Jim Chalmers’ essay, that we need a more values-based capitalism, with government more involved.
Alan Kohler writes for The New Daily twice a week. He is also founder of Eureka Report and finance presenter of ABC news
