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November 15th 2009 print

Steven Kates

The coming inflation

That there is a serious inflation coming seems all too possible. We have now poured an inordinate amount of money into the economic system without creating any buyable goods to match and I fear it is starting to show.

Wages, inflation and rates of interest

Last week there was a small item in the press about a series of strikes in pursuit of higher wages over at Qantas. Since I spent many years in the midst of Australia’s industrial relations structure, even presenting the employer submission to the National Wage Case on a number of occasions, it was the sort of thing guaranteed to catch my eye. We have rolled out a tremendous lot of cash, the financial system is brimming with liquidity, and there is now a real danger that everyone who can will start lining up for their slice of the action. 

There was then this, which was the front page headline story in The Australian on Friday. 

Shipping companies servicing the multi-billion-dollar offshore oil and gas sector face major disruption as the Maritime Union of Australia embarks on a series of strikes seeking massive increases in allowances and wages. 

In an action condemned by employers as a ‘destructive grab for cash’, the first strike is planned by unionists employed by Farstad Shipping. They will stop work for 48 hours next Tuesday, affecting 17 vessels operating in Bass Strait and around the northwest Australian coastline.

As they say, déja vu all over again, this being the merest reminder of the wage breakouts of the 1970s and 80s. 

That there is a serious inflation coming seems all too possible. I try to teach the theory of inflation in the most basic way with that clichéd lesson-in a-single-sentence. Inflation, I tell my students, is caused by too much money chasing too few goods. We have now poured an inordinate amount of money into the economic system without creating any buyable goods to match and I fear it is starting to show. 

Let me share a cautionary tale I now tell to everyone. Four years ago we had for the first time a house on our street being sold for over a million dollars, selling at $1.2 million. It was an amazing house, worth every cent. That same house sold again this April, virtually without change, but this time for $1.7 million. In four years property prices, at least so far as this particular property was concerned, had risen by forty percent. ABS figures seem to show the same. 

But then just two weeks ago, another house sold on our street but this was a derelict, a complete mess. Yet the price was over $1.4 million with four bidders going beyond the $1.2 million level and two going above $1.4 million. 

The buyer had just sold up in a more expensive suburb and was locating down, pocketing a net million along the way, although probably half of that will be sunk into renovations. The seller has netted for himself more than a million relative to the price he had paid more than a decade before, and was for him on a property he had rented out and not lived in himself. This is, for him, all money in the bank. 

And that’s the point. It is all money in the bank. There is an incredible amount of liquidity sloshing around inside the economic system which must be driving the Governor of the RBA mad. 

Interestingly, the two places the money has so far flowed into are areas that do not have all that large an effect on the CPI, the first being housing and the second the share market. In both places prices are going up once again on the back of a raging increase in liquidity. But because of the way the CPI is calculated, these increases are not reflected in our official inflation measures. 

Too much money chasing too few goods really means spending is rising more rapidly than the availability of goods to spend that money on. If there has only been a two percent increase in things available for sale, but everyone has had much more than a two percent increase in money to spend, what outcome would you expect? 

But what can compound loose government spending occurs when inflationary increases in expenditures embed themselves in wage contracts. And then the issue becomes which group will get the increase in incomes first. 

If all incomes are eventually going to rise over the next year or so by let us say seven percent, it is best to be amongst the first to get that increase since you get to spend the money before prices go up. If you are amongst the last to get the increase, all you can do is buy what you can at the higher price. 

And, of course, if you do not get increases equal to the rate of inflation, then bad luck to you. You simply watch as your standard of living descends as the real value of your income continues to fall. Others will buy more as you are shut out from buying what you used to. 

How bad is it going to be? Cannot tell just yet. But the government continues to spend on worthless, unsaleable rubbish, paying actual wages to people for producing what no one buys. And even as they do this, they are weakening the structures that have been carefully put in place to restrain unions from pushing wages ever higher. 

The last time we had just this problem, the only solution the RBA could think of was to push unemployment up over ten percent and hold it there until the inflation rate finally fell. What the plan this time is going to be only time will tell but the omens thus far are not good.