MNI INTERVIEW: Poor Productivity Feeding Australian Inflation

Declining productivity among those employed within professional market services likely drove Q2’s strong Australian services inflation data, potentially blunting the Reserve Bank of Australia’s monetary policy tools and making its task of pulling inflation back to its 2-3% target band harder – a senior economist told MNI.

Andrew Barker, senior economist at the Committee for Economic Development of Australia, and a former economist at the Organisation for Economic Co-operation and Development and the Productivity Commission, noted labour hoarding, burnout, mental health-related issues and the working-from-home trend had contributed to low productivity among market services post-Covid, which fueled Q2 services inflation much more than wage gains. Services productivity had fared worse than the wider economy, which had fallen to 60-year lows, he said.

June quarter headline CPI rose 6.0% y/y, decelerating from the March quarter’s 7%, and below the RBA’s May forecast of 6.25%, however, services rose 6.3% over Q2, 20bp stronger than the March quarter and its highest level since 2001. (See MNI BRIEF: Aussie June CPI Prints At 6%, Services Up To 6.3%) The RBA held the cash rate steady at 4.1% on Aug. 1 despite the sticky services print. (See MNI RBA WATCH: RBA Pauses With Tightening Bias)

“There’s usually a very strong correlation between wage increases and services price inflation, but the decline in productivity makes it clear that companies are having to employ more people to achieve the same output,” Barker said.

He noted, however, that wage increases and government decisions had likely driven nonmarket services inflation. Prior to the RBA’s June decision, the Fair Work Commission raised the minimum wage by 8.6%, while those on industry-negotiated award wages received a 5.75% increase. The changes, however, did not take affect until July 1.

Barker said microeconomic reform that incrementally improved productivity would help reduce market services inflation and the Productivity Commission's most recent report published in February recommended a range of policies for the government to enact. The Reserve’s tools were focused more on macroeconomics, he added.

LABOUR HOARDING

Barker noted firms hoarding labour, particularly post-Covid, had contributed heavily to the poor market services productivity. He said companies had found it hard to hire after downsizing suddenly during the pandemic and wanted to hold on to employees even though they were under-utilised.

“A lot of businesses in hospitality, for example, got rid of a lot of staff during the pandemic, and they have had trouble clawing them back from other industries," he noted. The labour hoarding, however, illustrated the optimism many companies held about the future and their hope that economic activity will rebound soon, he added. While high levels of labour could result in a rapid increase in the unemployment rate should the economy worsen, high immigration levels should continue to support demand and create business opportunities, Barker argued.