The Reserve Bank governor has said he is concerned that workers and businesses could become too accustomed to record low inflation, making it harder for it to rise again to healthy levels.
Philip Lowe said he was eagerly awaiting next week’s quarterly inflation figures because they would influence inflation expectations.
Delivering his first public speech in his new role Lowe told an audience in Sydney on Tuesday that inflation was likely to remain near 2% for the next two years at least.
“We expect that the various factors holding inflation down will continue for a while yet,” he said.
But he also said he believed Australia had not drifted into a world of permanently lower inflation.
He said inflation was expected to pick up over time as domestic demand strengthened gradually and the drag on the economy from the decline in mining investment came to an end.
He said this would see excess capacity, including in the labour market, being wound back. “Some pick-up in wages and prices could then be expected,” he said.
He said commodity prices had also risen this year, after four years of falling prices, and if the higher prices were sustained it would boost national income and dampen the effect that declining petrol prices were having on inflation.
Taking those things into account, he said the RBA’s central forecast was for inflation to gradually pick up over the next couple of years, although it was still likely to be closer to 2% than 3% by the end of this period.
But he warned that authorities needed to keep an eye on declining inflation expectations.
He said record low inflation, and record low wages growth had led to an expectation inflation would remain low.
For example, many workers had agreed to smaller wage increases recently, Lowe said, especially where expectations of future inflation were also low, and these low wage increases were reinforcing low inflation outcomes.
He then warned: “The experience elsewhere suggests that we do need to guard against inflation expectations falling too far, for if this were to occur it would be more difficult to achieve the inflation target.”
The new governor also defended the RBA inflation-targeting regime, saying it had served Australia well for more than two decades.
Last month, he mounted a similar argument, telling the Standing Committee on Economics that the RBA’s monetary policy framework did not need to be reformed.
The headline inflation rate is 1%, and measures of underlying inflation were only slightly higher, at 1.5%.
The RBA’s target band for inflation is 2-3%.
