Should you worry about inflation?

Intro:
Welcome to CPA Australia's COVIDChat, a weekly podcast to answer your questions about the latest news and developments impacting business.

Dr Jane Rennie:
Hello, I'm Dr. Jane Rennie, general manager, external affairs at CPA Australia.

Gavan Ord:
And I'm Gavin Ord, senior manager, business policy also at CPA Australia.

Dr Jane Rennie:
It's Monday, the 22nd of November and you are listening to COVIDChat, bringing you this week's need to know information for businesses and accounting professionals. Today, we're going to talk about a topic that's been getting a lot of attention lately, inflation. Gavin, before we launch into our discussion of the causes and what it means for Australians and Aussie businesses, can you arm us with some facts, starting with Australia? What are some of the key stats on inflation?

Gavan Ord:
Thanks, Jane. And it's always good to start with the facts. We often, these days start with opinions rather than facts. So in terms of Australia, in the September quarter, the annual inflation rate was 3.0%. So that's quite high compared to recent years. And that's being driven primarily by a jump in fuel costs and new drilling purchases.

Dr Jane Rennie:
And overseas, what are some of the key stats on inflation there?

Gavan Ord:
Well, this is where the story gets more interesting and we get to see some real inflation impressions. So starting with the US, the US inflation rate in October was 6.2%. Now that's the highest since November 1990. And if you remember November 1990 was just before the start of The Gulf War. So it's in between Iraq's invasion of Kuwait and the US-led operation to remove Saddam from Kuwait. EU the inflation rate is 4.4% in October. That's up from 3.6% in September. In the UK, the inflation rate is 4.2%. New Zealand across the ditch, it's 4.9% in September quarter. And that's the highest rate since the global financial crisis, but some of our two major trading partners, China and Japan is a little bit different. China, their inflation rate is 1.5% in October, but that's up from 0.7 in September. And Japan is the outlier with their inflation rate 0.1% in October.

Dr Jane Rennie:
So it's certainly not a uniform picture. And when I look at it, and I'm wondering how relevant these comparisons are to Australia, should we be focusing on the similarities or the differences between those jurisdictions and between Australia?

Gavan Ord:
Look, I might start off by paraphrasing the Reserve Bank Governor Philip Lowe, and he said something around the effect of concerns about inflation have become a major issue on people's radar in recent months after years of being very much on the periphery. This is because the inflation rates in some major economies have risen at their highest rates in decades. Understanding the reasons for this higher inflation and how persistent is likely to be is very important to households investors, bank businesses and central banks. Now, I'm suppose it's not answering your question directly, but then we move on to The US Federal Reserve. They're not so worried about inflation. And they've stated recently, inflation is elevated but that's large reflecting our factors are expected to be transitory, supply and demand imbalances related to the pandemic. And the reopening of the economy have contributed to sizeable price increases in some sectors, but again, it's transitory.

Gavan Ord:
European central bank has a very similar view. The present of that bank, Christine Lagarde has said the inflation impressions while unwelcome and painful, are expected to fade. And from her point of view or the bank's point of view, it makes no sense to react by tightening policy at this stage because the impact of say interest rate increases on inflation will only start kicking it after inflation decreases. So the major players are seeing inflation as a transitory issue. And I think we should be looking at that and taking solos in that opinion.

Dr Jane Rennie:
And Gavin thinking about what is causing the rising inflation income where that's occurring. You've mentioned a jump in fuel costs in Australia and new dwelling purchases. What are some of the other causes that are driving inflation?

Gavan Ord:
Well, the major causes are labour shortages and that's leading to wage pressures, supply chain disruptions, shipping and freight costs are up significantly. There's also the pent up demand, particularly in Sydney and Melbourne. People have been waiting to spend for quite some time. That is also having an inflation impact. There's also a bit of a factor around the time of year leading into Christmas. There's an increased spending and there's also ongoing COVID-19 disruptions. They're also impacting face ring practise.

Dr Jane Rennie:
So are those causes in Australia at the same as for overseas? Because certainly there are timing differences when countries have opened up and as they move into the next phase of COVID. So I feel like that some of those causes might have already happened in other countries and potentially starting to happen here with the reopening.

Gavan Ord:
Well, in short, yes, they're very much similar. Although as you indicated in your question, Australia's probably a good six months behind where US and Europe are in terms of their recovery and reopening. So we can sit in Australia and look at what's happening and prepare for what's happening. We know that inflation is gonna happen in Australia. We've got that fair warning from the US and Europe.

Dr Jane Rennie:
Well, is there then anything unique about inflation in Australia or are we just at the mercy of what's happening globally? And we can expect pretty much the same?

Gavan Ord:
Look, I think it's pretty much the same. I mean, there are some variations in the importance of some of those inflation factors. Listeners might recall a few months ago in the UK, there was a lot of shortages of fuel and products on shelves because of a truck driver shortage. Now that was unique to the UK because of their Brexit policy, but also in Australia, speaking to people in Australia, there are also truck driver shortages, but not to the extent of the UK.

Dr Jane Rennie:
And a number of the causes that you've mentioned are very much COVID-related when I'm thinking labour shortages and wage pressure, I'm thinking border closures, but there are some longer term trends that are also contributing to inflation. For example, climate change, is that right?

Gavan Ord:
Well, I think largely the inflation pressures are what I said before. Those sort of short term issues associated with COVID. But having said that, there are some longer terms prior seeing issues being built in. So we are seeing insurance premiums go up and they've been going up for some time, so that is to a large extent related to climate change. And we're also likely to see energy costs increase over the next few years as countries move to change your energy mix in response to climate change pressures.

Dr Jane Rennie:
So does this mean it's going to impact everything broadly equally, or are some goods and services or some sectors going to be hit harder than others?

Gavan Ord:
Well, I would say there definitely are going to be sectors are going to be hit harder than others. At the moment, sectors that are importing goods are being hit harder through supply chain disruptions and transportation costs. Whereas services businesses are not so much, but on the services businesses side, they're being impacted like a lot by the labour shortages and the wage presses that come with that.

Dr Jane Rennie:
And I imagine a question a few of our listeners might be thinking about because Australians are generally fascinated with property and property ownership, does rising inflation mean for Australians that the current era of low interest rates and cheap home loans is going to come to a sudden stop?

Gavan Ord:
Yes, that's sort of the question that comes out of all this. In short, the answer is no. In the short to medium term, the reserve bank has been pretty clear that they see high inflation as a transitional issue, and therefore they're not going to be raising interest rates in response, at least through the entire of 2022. They also see that Australia's inflation pressures are less than what they are many other countries, mainly because of Australia's modest wage growth. The RBA is forecasting inflation around about two and a half percent by the end of 2023. But there are obviously uncertainties that may relate to the persistence of supply chain disruptions and how employees, the labour responds to the inflation impresses.

Dr Jane Rennie:
And you've just mentioned both wage growth and employees. And I'm wondering if employees are seeing the cost of goods rising, is that going to have any sort of flow on effect on what they expect from wages?

Gavan Ord:
Yeah, I definitely think that will trigger wage pressure from employees and from unions, and that will flow through to individual businesses, but also in awards and minimum wage. I definitely think over the next few months, we are going to see this higher inflation rate, even though transitory, according to the RBA will lead to wage pressures.

Dr Jane Rennie:
I think also over the next couple of months, we've started to see something which will be a bit of a trend as we lead into a 2022 election. And that's a bit of rhetoric about keeping the cost of living low and who's better place to keep inflation low. The market also seems to be factoring in expectations of inflation at the same time, as you've mentioned, the central banks don't seem to be too worried. So my question for you is should we be afraid or should we be unconcerned?

Gavan Ord:
What was John Howard said, "alert, alert, but not alarmed". I think that's maybe where we should rest at this point in time. But on your question about the pre-election arm, I'm sure that politicians will take advantage of higher price rises and turn it into a political issue. I'm sure that we'll hear commentary around that one party is better than the other party keeping costs down, but largely those matters are outside the control of governments. These are factors which are moments in time and largely governments have limited ability to control prices. But going back to also what you said is central banks are not so worried hence why I say be alert but not alarmed. However, I will state that in the US were as we've discussed before their inflation rates up around 6%, that has had a significant impact on consumer confidence in November, as people are worried about the value of their savings and their earning power of their wages in inflation market.

Dr Jane Rennie:
Now, that's interesting that you should say that about consumer confidence because just last week we ran a LinkedIn poll on how the pandemic has changed people's financial habits and that poll, which we got nearly 1300 responses. People said they were more likely to save now. And I think that is one of the effects when people start hearing about inflation going up on consumer confidence, would you agree with that?

Gavan Ord:
I think there's a few factors there. I think there's also a level of uncertainty around the economy. Just this over the weekend, we've seen Austrian in Germany, reimposed lockdown restrictions in their countries, particularly on the unvaccinated, so there's still a degree of uncertainty in there. I think inflation is obviously having impact on that confidence as well, and that may lead to increased savings, but in a market where prices are rising quickly, it actually degrades the value of savings at this point in time. So it may not be the best, the wisest move, obviously depends on where you invest, but for those out there who are thinking on what they should do and where to invest, what to do with their savings, I think go and seek some advice at this point in time.

Dr Jane Rennie:
So Gavin, I'm going to be a bit unfair now and try and pin you down on your perspective on what you think is going to happen with inflation in Australia. And I feel like you've suggested that inflationary pressures won't hit Australia as badly as other countries. Well, how far, and how fast do you think it will rise?

Gavan Ord:
Well, I don't think you'll be able to pin me down to an answer, but what I will say is I think Australia's inflation rate will definitely go above the 3% in September. I think we'll see, is going to be very interested to see what happens in the last quarter of this year, the first quarter of 2022, I think inflation will rise for those for that six month period. And then hopefully by June 2022, we'll start to see some decreases in inflation, but Australia is also going through later shortages, pent up demand, increasing transportation costs and supply chain disruptions.

Gavan Ord:
We're also hearing from members that businesses are more willing to pass on costs than have been in previous years, but we hope that some of those, for example, the short term labour shortages, we hope that they will begin to ease in the coming months as board, as reopen international students and backpackers return, but we can't be certain, they will return in the numbers hoped. We think we believe that the transportation problems should hopefully be work through. And if you look at the shipping problems in the West Coast, the US, they're starting to work hard to address those issues. And on supply chain disruptions, generally supply chain disruptions take a good six months to work out historically. So hopefully hose problems will to dissipate by April or May next year.

Dr Jane Rennie:
So how big of an issue do you think this will be for Australian businesses to come?

Gavan Ord:
I think it's going to be definitely an issue in the short term. That's something they'll need to consider are in their pricing strategy, but also in their labour costs as well. Their employment costs as well. So it is going to be a short term issue that will impact on them, their earnings, their pricing, and their employment costs.

Dr Jane Rennie:
So your advice to businesses about managing rising inflation?

Gavan Ord:
I think it's important not to place too much attention on high headline inflation figures and listen to the advice, the experts in central banks, whether the increase will be temporary or not, but in terms of your question, I would suggest look to pass on the costs if you can. Otherwise, look for efficiencies in your business or seek out new suppliers. If increasing prices, make sure your customers understand why. And at this point in time, they're pretty understanding of why businesses are increasing prices.

Dr Jane Rennie:
And lastly, Gavin, what, if any impact is inflation likely have on accounting practises?

Gavan Ord:
Well, like all businesses, they're going to experience cost pressures, but I think for an accounting practise in particular, they're going to see wage pressures, but those wage pressures have been building for some time because of supply shortages, skill shortages in the profession. But they're also going to, I think a lot of accounting professions, accounting practises might have their clients come to them for advice on pricing and how to pass on costs or how to respond to price presses. So they might probably might pick up some more advisory work out of this inflation market.

Dr Jane Rennie:
If you've got a question about any of the topics we've discussed today, or any of CPA Australia's policy and advocacy work, please email [email protected]. We'd also be very pleased to hear from you if you have a suggestion for future topics that you'd like us to explore on COVID Chat. If you've enjoyed what you've heard today, please tune in again next week and tell your friends. From all of us here at CPA Australia, thanks for listening.

Outro:
And that's our episode for this week. Thanks for listening. To ensure you don't miss an episode, subscribe to the CPA Australia podcast channel on your favourite app, and for more COVID resources, guides and information, visit CPAAustralia.com.au/COVID.