The media is at again.
And yesterday, ‘inflation’ reached it’s highest annual level since October 2008, supposedly ‘smashing’ through the Reserve Bank of Australia’s (RBA) own self imposed target inflation rate of 2 – 3%.
However, the media were quick to point out that smokers were at fault – again! You see, the new 25% tax on ciggies apparently caused the inflation gauge to increase as much as 0.5%.
And of course, with the RBA meeting today to decide to increase rates, according to one journalist these figures are a sure fire indicator that the RBA will have to raise the cash rate.
But then, according to another journalist, at the same paper, because lending and new credit has slowed, these inflation figures are only a warning sign, but it’s unlikely that interest rates will increase.
Then there’s the ‘other guy’ that suggested a 5% chance of a rate cut. Er, that’s unlikely.
Who do you believe? None of them. They’re all guessing.
One thing’s for sure, it’ll be a tough day for those at the RBA office today.
But you’ll notice that the inflation figures aren’t from the Australian Bureau of Statistics. In fact these figures have nothing to do with the supposedly all-important Consumer Price Index (CPI).
Now, the CPI data is only released quarterly and for over ten years the RBA decided that it needed monthly data because ‘…greater frequency may help to identify changes in underlying inflation more quickly.’
So the Melbourne Institute came along and developed the ‘Inflation Gauge’ that you heard so much about yesterday.
There are a few differences between the two measures, the most obvious one being the volume of the data collected. But most importantly, the Inflation Gauge seems to be a fairly accurate tool of consumer price inflation.
But however accurate an indicator is, it disguises what’s really important. And that is, whatever the mainstream press tells you, inflation just makes you poorer.
Let me explain…
As I mentioned before, the RBA has a target rate for inflation of about 2 – 3% per year. So basically, each year your dollar is worth about 3 cents less than it was the previous year.
Or so it seems. The RBA has a groovy tool on its website called the inflation calculator. So while it’s a bit of fun to play around with, it’s frightening when you work just how little your money is worth now.
As an example, your $500 in 1967 would be equivalent to $5,236.35 in 2009! Which gives you an ‘average’ inflation rate of 5.8% over that period. Or another way of thinking about it, the cost to you has gone up 947%.
Or to put it another way, the value of the dollar has declined by 94.7%.
How’s that fair?
See, I think anything that takes precious dollars out of your pocket as evil. But there are of course the arguments that inflation is good for you.
One of the biggest ‘pro inflation’ arguments is that it’s good for your debt levels.
If you have a fixed rate mortgage and the inflationary beast comes along, then as your salary rises your debt levels remain the same and because of inflation your mortgage essentially becomes cheaper to pay off as it takes up less of your salary.
While it sounds like a simple solution, it doesn’t work like that.
Firstly, inflation affects your everyday costs of living too. And you, like most people probably only have your salary reviewed once a year. You’ll spend a whole year waiting for your salary to go up to meet your already rising living expenses.
But inflation doesn’t stop once your salary goes up, it keeps going. So you’re still struggling with the ever increasing living costs, even though you just had a pay rise. It’s a scary thought to think that even though you’re getting paid more, you still can’t get on top.
Your pay goes up in nominal terms, but in real terms your pay has actually dropped.
There’s even the misguided attempt to suggest that inflation is what the economy needs, even if it isn’t what the consumer needs.
You see, central banks like the RBA believe that inflation is one way to ensure that there is moderate growth to the economy.
Most central banks believe that by slowly devaluing your dollar, and in turn decreasing your purchasing power the economy can grow at a stable pace.
And not to be outdone on the ‘inflation is good for you’ bandwagon is the US Federal Reserve. A few economists are suggesting that the only way to dig the country out of the subprime crisis is to raise the target inflation rate so people can pay off their debt!
That’s right, they’ll have to pay three or four times the price for a litre or pint of milk, but at least they can pay off the debt. Except that will probably encourage more debt as living costs rise and wages don’t keep pace.
If the US thinks higher than ‘normal’ inflation will fix the subprime crisis what are the chances of the RBA following suit? I mean, we all know that Australia has some of the highest personal debt levels in the world.
At the end of the day, all inflation proves is just how much individuals are manipulated by central banks. It’s sad, but true.
See you tomorrow.
Shae.
{ 5 comments… read them below or add one }
Shae, good article! It is not easy to fill Sayce’s shoes and get his following, but you can get there.
Style-wise, needs to be a touch more aggressive and a bit more in-depth. Facts-wise, the RBA calculator and 5.8% p.a average is a good find.
But it seems that the bulk of it occurred between 1970 and 1990, when inflation was 9.3% pa, according to the same calculator. That is, before the RBA became “independent”, and at the times of evil money-printing ALP govt lead by Keating. Whereas between 1992 and now it was about 2.7%, which is “not too bad”. So this does in fact support the theory that an independent RBA is good for your wealth.
So, does inflation make you poor? Not many people store their wealth in cash anyway. But it surely prevents you from storing your wealth in your mattress, which is not necessarily a bad thing.
I’m sure Shae’s a lot better lookin’ than Sayce …
just kidding Kris…
I love you!!
Sandra, i was talking about his shoes. and silly me thought there is more to a girl than her looks… talking about equal opportunities and gender divide. but, cant argue with love – it is just as irrational as investment decisions we make.
She is, they have profile pictures. Not that Sayce is ugly
I think the CPI figures from pre 1990 would have been less to political manipulation. One of the main reasons for the housing bubble that is about to pop was due to changes Howard made to the CPI calculation method in 1998. Pretty much he excluded housing finance and some housing costs, that surely would have seen inflation hitting 5% during the past decade.
I bet during the 1970′s – 1990′s, inflation was measured correctly and thats why the figures are so ugly.
I really think someone could do a proper cost of living index that shows the fraud the CPI has become. Geez, it wouldnt be hard to consider what the typiucal family consumers (Car, Petrol, Food, Housing, Entertainment, Health, Education etc…) and look at the bundle to see how much it has gone up in decade. If housing and petrol is any reflection., then you can bet your bottom dollar that inflation has NOT been within 2-3% for the past decade
In terms of Shae’s prediction that the RBA will try to inflate our debts away…I dont buy it. Yes it seems like an attractive solution for the RBA – as they will be desperate to show that they had these debt levels under control – but in reality it would be a total betrayal of their mandate and the Government would be crucified for purposely allowing prices to rise. Some form of debt moratorium would be a much more politically popular and economically wise approach to this debt crisis we are heading into.
PF and cb, any comments on recent few days of real estate data…is that appetite for risk really returning any time soon?
Dont think so – take a photo of some house values, because this is the highest house prices will be for about 5-7 years. Its all down from here