When the pain is expected to ease
Interest rates may start falling sooner than many people – including the Reserve Bank – expect
A TRIP TO the supermarket is fast becoming an eyebrow raiser as we’re asked to cough up a lot more for the basics, let alone luxuries. But prices won’t keep rising indefinitely.
Continually rising prices are not something Australians are used to. Inflation is rampant in countries such as Zimbabwe (230%), Argentina (98.8%) and Pakistan (31.5%). Australia had coasted along with inflation at a barely perceptible 2%-3% for many years. That’s all changed in the past 18 months.
Inflation is measured by changes to the consumer price index (CPI), which is a representative basket of goods and services that the Australian Bureau of Statistics (ABS) uses to measure price movements.
It’s a misnomer that prices always track upwards. In mid-2021, the CPI moved by -0.3%, meaning that for a brief period prices were falling. Since then, inflation has turbocharged its way north. Between September 2021 and December 2022, inflation jumped from 3% to 7.8%, a level not seen since 1990, and far beyond the 2%-3% target range set by the Reserve Bank.
Several drivers are behind our skyrocketing inflation, including Covid disruptions to global supply chains and Russia’s invasion of Ukraine, which pushed up prices for key commodities, such as wheat and natural gas. In Australia, severe flooding put further pressure on food prices (remember last year’s $12 lettuce drama?).
Gareth Aird, head of Australian economics at CommBank, believes another key factor is fuelling prices. “High inflation last year largely reflected the massive fiscal splurge over 2020 and 2021, coupled with ultra-loose monetary policy, to support the economy through the pandemic.”
Whatever the causes, inflation did dip to 7.4% in January 2023. Michelle Marquardt, head of prices statistics at the ABS, notes this is still the second highest annual increase since the start of the monthly CPI indicator series in September 2018, and she believes it signifies “ongoing high inflation”.
It could be several months before we know whether inflation is on a sustained downward trend. In the meantime, there are signs Australians are closing their wallets. Retail sales volumes fell in the December quarter of 2022 for the first time since September 2021. Consumer confidence, in particular, has taken a big hit.
The Westpac-Melbourne Institute consumer sentiment index plunged almost 7% in February to a level below the low point of the GFC of 2008-09, and only slightly higher than when Covid first hit in March 2020. “Prior to that, we need to go back to the deep recession in the early 1990s to find weaker index readings,” says Matthew Hassan, senior economist with Westpac.
Where is inflation headed?
The Reserve Bank’s string of rate hikes since May 2022 is designed to bring inflation under control. The theory goes that higher rates mean bigger debt repayments, leaving consumers with less to spend on other things.
Lower demand should, in theory, lead to lower prices, pushing inflation down.
Even so, the road back to the days of 2%-3% inflation is unlikely to be quick or easy. The Reserve Bank believes price rises may have peaked in late 2022 and expects inflation to fall to 4.8% by the end of this year, with a return to 3% by mid-2025. But plenty of experts think inflation could fall harder and faster, especially as 880,000 home loans are due to move off a very low fixed rate this year.
CommBank’s Aird believes the Reserve Bank is underestimating the lagged impact that interest rate increases will have on the economy.
“It takes time for rate hikes to impact home borrower cashflow and spending decisions,” he says. “We expect the economy to slow considerably over 2023. By extension, we believe inflation will drop more quickly than the RBA’s updated forecasts indicate.”
CommBank expects inflation to be 3.5% at the end of this year and to be within the Reserve Bank’s target of 2%-3% by early 2024 – potentially a year earlier than it forecasts.
NAB predicts inflation will ease relatively quickly through 2023, tracking at about 4.3% by the end of the year and easing back to 2%-3% by late 2024.
The upshot is that high inflation could potentially be behind us in less than 12 months. At its March rate meeting, the RBA made it clear that “this period of high inflation is only temporary”.
Nonetheless, the process of taming rising prices is likely to bring more hip pocket pain, with the bank admitting it “expects further tightening of monetary policy”.
Airds points out that the budgets of many mortgage borrowers will be under considerable strain over the year ahead. This has the potential to put the brakes on the economy, with CommBank expecting unemployment to rise from 3.5% at present to 4.25% by late 2023.
A bright spot is that a slower economy could see the Reserve Bank make a U-turn on interest rates. CommBank is expecting rate cuts of 0.5% in the final quarter of 2023, with a further 0.5% easing in the first half of next year.
Bill Evans, chief economist at Westpac, predicts we could see “a rate cut beginning in the March quarter 2024”.
If this happens, it’ll be a welcome break. A combination of lower rates and lower inflation could be just what plenty of Australians need.
Jessica Farrugia, 36, is a single mum and graphic designer. As well as causing financial stress, the higher costs are taking an emotional toll on both Jessica and her young son Ben.
She says the first thing she’s noticed is the huge increase in her grocery bills. “I’m doing food shopping every week and I’d be spending anywhere between $200 and $300, which is crazy,” she says.
Her petrol costs have also gone up from about $50 to about $70 a week.
Her biggest concern is what she’s going to do when her home loan comes off its fixed interest rate and switches to variable in August. She is currently paying around $320 a week, which could increase by as much as $550 in a few months.
“I worry that I may not be able to afford my own mortgage,” she says.
As a homeowner with a full-time job, Jessica says she is not eligible for any cost-of-living subsidies. That means she has to shoulder her future expenses, including a crippling mortgage, all on one income.
She would love to get a second job but between working full-time and being a single parent, she has barely any time or energy left in the day for anything else.
“I’m not even thinking about my own needs. I can’t go out with friends or spend anything on myself because
I don’t have the budget to do so.”
Her money worries have rubbed off on her son, who seems more unsettled at home and at school these days.
She wished she could do more for his schooling and development, but money is tight. “He does swimming lessons, which I make sure I can pay for, but
I wish I could do more.”
To make matters worse, her dog Beau was diagnosed with a tumour in its tail last month and had to get surgery, draining her emergency funds.
“Out of nowhere my dog needed an operation and I had to dip into my savings and now they’re gone.”
She has started shopping at the big supermarkets to get more out of her grocery budget. “I used to do click-andcollect to save time, but I realised that if I got off my bum and shopped around I could get more for my money,” she says.
She started selling some items on Facebook Marketplace, too. “I put together this bag of PAW Patrol toys and sold the lot for $200.”
But the squeeze on her income means she’ll have to put some of her plans on the backburner.
“I would love to start investing in shares, but I just don’t have enough to do that. I also want to help the RSPCA because I love animals, but I can’t donate any money either.”