RBA concedes measure linking employment to inflation a ‘bit out of date’
Make us a preferred source
Make us a preferred source on Google
The news: The Reserve Bank of Australia’s assistant governor Sarah Hunter has admitted that a widely-watched measure linking employment and inflation is “out of date”, in a speech to the Committee for Economic Development of Australia.
The context: The non-accelerating inflation rate of unemployment (NAIRU) is an economic concept that in theory reflects the particular unemployment rate that would exist when a country is at full capacity and not contributing to an increase in inflation.
But Hunter said “the old inflation accelerating/decelerating knife-edge doesn’t fit with today’s economy. This means the ‘non-accelerating’ part of the NAIRU name is a bit out of date”.
“The NAIRU models were developed in the 1970s, at a time when people’s inflation expectations were unanchored and quite responsive to recent inflation outcomes,” Hunter said.
“What that meant is that a temporary increase could lead people to change their views to expect higher inflation going forward, even several years into the future.”
Hunter said that “conditions are quite different today”. The RBA is now mandated to target a specific inflation rate so expectations of future inflation tend to be anchored to the midpoint of the target inflation rate band of 2% to 3%.
As such, the RBA now interprets the NAIRU as estimating “the unemployment rate at which current inflation would converge to expected inflation”.
This means that even with the “tightest labour market seen in 50 years, inflation did not create a strong feedback loop with expectations” so should not be expected to ‘run away’.
“When the labour market is tight and operating beyond full employment, we expect to see inflationary pressures across the economy and an elevated rate of inflation. But the rate of inflation doesn’t have to be continually increasing.”
She also reiterated the central bank’s view that the labour market “remains a bit tight” and that a “recent acceleration of demand growth beyond our estimate of trend” will keep the labour market tight and inflation high for some time.
The source: RBA speech
