Central Bank struggling to bring inflation under control
Central Bank struggling to bring inflation under control: The announcement was expected but no less shocking at today’s meeting the committee raised the target range for the federal funds rate by three-quarters of a percentage point resulting in a one and a half percentage point increase in the target range so far this year the only potential ray of light and unemployment rate near a 50-
year. Increased by nearly nine percent last month alone as inflation reached a level not seen in decades the interest hike will increase the price of mortgages and insurance among other things but the fed hopes it will also dampen consumer spending which in turn should reduce inflation my colleagues and i are acutely aware that high inflation imposes significant hardship, especially on
those least able to meet the higher costs of essentials like food housing and transportation we are highly attentive to the risks high inflation poses to buy both sides of our mandate and we’re strongly committed to returning inflation to our two percent objective and that would be welcomed by a suffering public.
What is happening with the central bank
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we’re going to talk about finance now and with concerning financial news dominating the headlines these days it’s not hard to imagine worst case scenario is it it was quite a tumultuous week for wall street uh this is last week of course the s p 500 lost 5.8 percent for its 10th drop in the last 11 weeks that was actually its worst week since march 2020 and we know what that was all about the ripples of course have been felt here in Australia as well and the villain is inflation which is being attacked with higher
interest rates that the federal reserve and other central banks are imposing on borrowers and yes higher rates can bring down inflation but they also risk a recession by slowing the economy too much so how can our central banks orchestrate a soft landing mark humphrey jenner is associate professor of finance at the university of new south wales and he’s here with us now with his reflections mark gooday thanks for coming on hi paul and thanks for having me are we dealing with an art or a science when it
comes to being a central banker well it’s a little bit of both uh you have to have some finesse about forecasting what will happen with the gdp with inflation with all the other inputs that go in to what you need to do as a central bank uh however of course those should be data-driven so how much luck comes into it certainly there’s quite a lot of luck now the central bank needs to base a decision on what information they have they have information about inflation about unemployment about the various components
of inflation so what is going up more than other things and also about the consumer and the uh safeness and health of the consumer however there are many other factors that can influence inflation so, for example, say the central bank wants to get inflation under control but then hypothetically a war between Russia and Ukraine breaks out then that really messes up what your
prior plans were or if for example, another lockdown occurs in china that again can mess up what your expectations for inflation were so.
Could raising rate haram supply
if inflation goes up because of supply chain issues that can corrupt the market can’t it if if interest rates then prevent somebody from manufacturing in Australia to replace the things that we can’t get if they can’t afford the finance then it’s counterproductive isn’t it absolutely and that’s a fine line for the central bank so the central bank really wants to get inflation under control but of course they need to consider growth and unemployment as well but at the moment they’re really obsessed with
inflation the problem is that a lot of the inflation at least in Australia is driven by supply-side factors i.e supply chains have become a problem there’s also been cost increases for energy and the lag so the central bank to get on top of inflation needs to crush demand even more than it would have before that is they need to go even harder because demand is not really what’s driving
inflation at the moment it’s supply-side factors this means that when you’re crushing demand there can be unintended consequences and those unintended consequences include a lack of investment and potentially a hurt a hit rather to supply if people can’t invest to generate supply mark.
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Is the US situation is different from that in other countries
that the situation in the united states is a little more precarious than here and it’s if the united states go into a recession that doesn’t necessarily mean that Australia will do it you’re right to the US and Australia have some similarities but also some strong differences so going into 2022 US had a lot more demand for goods than did Australia because we had put a lot more stimulus into the economy than Australia had so the u.s had a bedrock of demand it was then exacerbated by supply shocks the
supply shocks being of course the ongoing issue with covert and also what’s happening in Europe in Australia we have those same shocks as US however we didn’t have as much of a strong demand bedrock as the US did so there’s a difference to some extent in what the inflation is caused by Australia also has slightly higher gdp forecasts at this point so to give you an example the atlanta federal reserve so one of the various federal reserves in the us the atlanta fed came out and forecast gdp growth of zero percent in
the us in quarter two so certainly Australia is at the moment in a better position in the u.s but things can change very quickly there are also some other core economic differences for example we can look at mortgage rates in Australia mortgages are typically variable mortgages this means that when the central bank hikes rates it generally affects all borrowers in the u.s mortgages are typically 30-year fixed rate mortgages meaning that when the central bank hikes rates it only affects new borrowers therefore a
rate hike in Australia has a significantly bigger economic effect than it does in the united states because it affects more people and is going to wipe out more savings from more borrowers which will have a significantly bigger effect on inflation than it would in the us meaning that interest rate trajectories can change significantly between the two countries another example is Australia producing more commodities than the united states at least as a proportion of overall output meaning Australia relatively speaking
could potentially gain more from surges in commodity prices so there are some core differences between the two economies but of course there are significant trade linkages between them and therefore the two are always going to have a significant correlation.
How to recessions related to the stock market
one of the major indicators of problems in our finance markets of course has been a share market correction but that doesn’t necessarily point towards a recession either does it it doesn’t necessarily have to so with a stock market decline uh the basic way to think about it is the price of a share should equal the present value of all future cash flows the company is going to generate so if the prices are declining then it can represent either a decline in what those cash flows will be or it can represent the fact that
interest rates and the cost of capital is going up that is a future dollar is worth even less than it was just yesterday or the day before so both of those factors can drive a stock market decline so if for example we are seeing stronger interest rates then that
cost of capital goes down and that can cause a share market correction it doesn’t have to mean a recession but it certainly can be correlated with one and it’s something that we need to watch out for when we’re considering what’s going to go on in the economy mark do you reckon that reserve governor .
Are the central bank aware of the risks?
Dr. Philip lowe is conscious of the risk of opening the oven door on the souffle you would certainly hope that the rba and other central banks are aware of these risks it is after all their job to be aware of these risks however central banks while claiming to be data-driven were certainly slow to move to address inflation the fed and the rba moved relatively slow to high quotes and wind
down some of the accommodative monetary policy that existed and this is despite economists and financial economists warning of risks of inflation as far back as early 2021. so the central banks have been slow to move so far which doesn’t necessarily fool people with confidence about how they will act into the future you also add on to this the rather rosy information coming from
central bank rhetoric if you look at the federal reserve Jerome pal very much downplayed some of the financial and economic risks latent in the economy, for example, he didn’t really address the weak state of the consumer in the us the fact that many consumers are spending more on credit the fact that savings rates are going down the fact that many companies are building up
inventory and might need to discount goods so there appears to be a degree of sanguininity about how the economy is performing which does create some concerns that said central banks have some very capable people in them and one does very much hope that they look at forward-looking data and do acknowledge these risks when hiking rates in the future mark how is all this happening.\///Central Bank struggling to bring inflation///
Why is the economy is bad if employment is good
when we’ve got record levels of job vacancies when we’ve got record job vacancies that in fact can be a sign of inflation surges as well so when you’ve got record job vacancies that basically means there’s a lot of job openings for anyone who potentially wants to get a job and if you’ve got record job vacancies you can end up with a lot of inflation going on because the cost of hiring someone will increase uh you need to pay more in order to attract your preferred candidate to work so the job vacancy is actually consistent
with inflation going on at the moment and they’re consistent with what’s going on with a so-called overheating economy at least in the united states all right we’ve got all of these challenges still to be resolved but there’s how would you rate the level of urgency at the moment how urgent the situation ends up being is to some extent within the central bank’s hands if the central bank is seen
as credible people believe they will genuinely get on top of inflation if the central bank does act to get on top of inflation and it moves with purpose when it comes to interest rates to raise them in an appropriate manner then things get less urgent if the central bank is properly data driven they hike rates when they need to to get on top of inflation but also consider forward-looking
indicators about the state of the economy then the situation might be less urgent however if the central bank perhaps is out to lunch if the central bank doesn’t do anything if the civil bank sits on its hands if the central bank is seen to ignore inflation then inflation expectations will be unanchored so to speak that is people will expect inflation to keep soaring which will feed into price hikes
which will feed into more inflation in a vicious cycle so how urgent or not the situation ends up depending on a lot of factors many of which are actually within the central banks’ amber to control however we’re also seeing the consumer inflation expectations have increased significantly so the central banks need to make sure that they do enough to get on top of inflation but
not so much that they ultimately cause things in the economy to break the mark always good to catch up thank you for that explanation thanks a lot paul it was good being with you.
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