Australia’s fight against rising prices has hit a significant hurdle, with the latest Consumer Price Index (CPI) figures revealing inflation remains stubbornly high, despite a slight easing in February. The CPI rose by 3.7 per cent for the month, a marginal decrease of 0.1 per cent from the preceding month, yet it continues to sit above the Reserve Bank of Australia’s (RBA) preferred target band of 2-3 per cent.
The Australian Bureau of Statistics (ABS) data highlights housing and the cost of food and non-alcoholic beverages as the primary drivers of this persistent price growth. Meanwhile, underlying inflation, which the RBA uses as a more stable indicator by excluding volatile price swings, held steady at 3.3 per cent.
However, these February figures provide an incomplete picture, as they predate the recent escalation of conflict in the Middle East, which commenced on February 28th. The subsequent surge in energy prices, directly linked to geopolitical tensions involving the US and Iran, is not yet reflected in the latest CPI release.
The Looming Impact of Geopolitical Shocks
Economists are warning that the full ramifications of these global events on Australian inflation will only become apparent in the coming months. Luci Ellis, Chief Economist at Westpac Group, noted that while the headline figure for February was slightly lower than anticipated, it represented a “starting point ahead of the outbreak of conflict.” She cautioned that this positive initial outlook is likely to be short-lived.
“This will be overtaken by events, and we are expecting headline inflation to head up to around 5 per cent,” Ellis stated, underscoring the significant upward pressure expected from the energy price shock.
This latest inflation data arrives shortly after the RBA’s recent decision to increase interest rates for the second time this year. The central bank’s monetary policy board cited a tight labour market and persistent capacity pressures as key factors influencing their decision, signalling a continued hawkish stance in the face of inflationary pressures.
The RBA has explicitly warned that the ongoing conflict in the Middle East could exacerbate inflation. While the immediate impact will not be fully understood until future ABS figures are released, the central bank is closely monitoring the situation.
Inflation Expectations and the RBA’s Concerns
Dr. Ellis further elaborated on the RBA’s concerns regarding inflation expectations. She explained that the recent spikes in fuel prices have already begun to influence how Australians perceive future inflation. The RBA is keen to prevent these heightened expectations from becoming entrenched, which could lead to a self-perpetuating cycle of higher inflation.
“Because of the escalation in fuel prices there has been an increase in inflation expectations, and the RBA wants to make sure that that doesn’t linger and that higher inflation expectations don’t get embedded into higher inflation. They want this to be a one-off shock,” she emphasised.
Government Acknowledges Worsening Inflation Outlook
Treasurer Jim Chalmers acknowledged the slight cooling of headline inflation prior to the Middle East conflict as a welcome, albeit temporary, development. However, he was unequivocal in stating that inflation remains unacceptably high and is poised to worsen.
“The war will make things harder for Australians,” Chalmers told reporters in Canberra. “We know that inflation was already too high in our economy and the conflict in the Middle East will push inflation higher for longer.”
Recent government modelling, released by Treasury, had projected that a prolonged conflict leading to oil prices exceeding $US120 per barrel could push inflation towards 5 per cent. However, on Wednesday, Chalmers conceded that these projections might now be considered “pretty conservative,” prompting him to request further modelling from Treasury to account for “more challenging circumstances.”
This sentiment is echoed in recent market movements, with oil prices temporarily breaching $US119 per barrel this week.
Key Variables and Economic Outlook
The Treasurer identified two critical factors that will shape the economic fallout from the conflict:
- The timing of the war’s conclusion: The sooner hostilities cease, the sooner global economic stability can be restored.
- The pace of global economic recovery: The speed at which the world economy can rebound following the cessation of conflict will significantly influence inflation trajectories.
“Those are really the two key variables which play out in all of our scenario planning and all of our modelling,” Chalmers stated.
He also noted the positive market reaction to proposed talks between the US and Iran, highlighting the urgent need for de-escalation from an economic perspective. “What that makes clear purely from an economic and market point of view is that the end of this war can’t come soon enough for the economy,” he remarked.
In a sobering address to a Business Council of Australia dinner, Chalmers drew parallels between the potential economic damage of the current conflict and the far-reaching impacts of the Global Financial Crisis and the COVID-19 pandemic, underscoring the gravity of the situation.
The ongoing geopolitical instability presents a complex and challenging environment for Australian households and businesses, with inflationary pressures expected to remain a dominant concern in the months ahead.
