Fuel Tax Cuts Won’t Stop Mounting Cost-of-Living Pressures and Interest Rate Hikes
Australian mortgage holders, already grappling with rising expenses, are being cautioned that the federal government’s temporary fuel excise reduction is unlikely to provide significant long-term relief from cost-of-living pressures or stave off further interest rate increases. Experts warn that the underlying drivers of inflation remain potent and will likely necessitate continued tightening of monetary policy.
Westpac chief economist Luci Ellis, who boasts over three decades of experience at the Reserve Bank of Australia (RBA), has expressed skepticism about the fuel excise cut’s impact on runaway inflation. She anticipates that this persistent inflation will inevitably lead to higher interest rates, with a grim forecast of three additional interest rate hikes in May, June, and August.
If Ms. Ellis’s predictions hold true, the official cash rate could climb to 4.85 per cent. This would represent the highest level seen since the global financial crisis, signalling a significant shift in borrowing costs for households and businesses.
Ms. Ellis attributes this expected trajectory to the “surprisingly rapid pass-through of higher fuel and other oil-derived product prices into other prices in Australia.” She elaborates that the RBA is likely to respond to this inflationary behaviour by implementing more aggressive monetary policy tightening than would have been necessary if this price transmission hadn’t occurred.
While acknowledging that halving the fuel excise might offer some temporary respite for motorists, Ms. Ellis maintains that inflation will continue its upward climb in the coming weeks. She projects that despite the fuel excise measure, Australia’s headline Consumer Price Index (CPI) inflation is still likely to peak at 5.4 per cent year-on-year in the June quarter. This contrasts with the current inflation rate of 3.7 per cent.
Government’s Response and Economic Outlook
During a press conference, Treasurer Jim Chalmers was questioned about whether the government’s cost-of-living relief measures were counteracting the RBA’s efforts to curb inflation. Mr. Chalmers stated that he does not comment on the RBA’s independent decisions or pre-empt their discussions. He also noted that market expectations for interest rates did not appear to significantly shift following the government’s policy announcements, attributing this to the market’s own assessment of economic conditions.
Mr. Chalmers acknowledged that Australia is not alone in experiencing higher inflation due to soaring global fuel costs. He pointed out that many economies worldwide are anticipating higher interest rates for an extended period as they navigate the global economic shock. The conflict in the Middle East, in particular, is seen as having a substantial impact on the global economy, with a swift resolution being highly desirable from an economic standpoint. He assured that central banks, including the RBA, would carefully consider the implications for inflation, growth, and unemployment in their decision-making processes.
Prime Minister Anthony Albanese had previously announced a 50 per cent reduction in the fuel excise for a three-month period, which was expected to lower fuel costs by 26.3 cents per litre, translating to savings of approximately $16 for a 60-litre fuel tank. Additionally, the heavy vehicle road user charge was temporarily scrapped to support the trucking industry.
Mr. Chalmers described these measures as timely, temporary, and responsible, emphasizing that the increased petrol prices were not the fault of Australian motorists or truck drivers but rather a consequence of the conflict in the Middle East. He stressed that these measures were part of a broader plan focused on various aspects of the economy, including supply, distribution, combating rip-offs, and providing cost-of-living relief.
RBA Confirms Middle East Conflict’s Economic Impact
The RBA’s recent meeting minutes confirmed that the conflict in the Middle East was expected to have a considerable impact on the Australian economy. This comes after the RBA had already increased the cash rate by 25 basis points to 4.10 per cent in mid-March, with a split decision among board members indicating a debate about the appropriate course of action.
The RBA noted that “uncertainty, stemming especially from the current conflict in the Middle East, could mean that the potential benefits of waiting for a little more information outweighed the potential costs, even with the presumption that the cash rate target would probably need to be increased further at some point.”
The central bank acknowledged the sharp rise in global oil and energy prices and their subsequent impact on Australian households. The board agreed that the conflict was likely to pose a “material adverse supply shock to the global economy,” though the ultimate scale and persistence of this shock remained highly uncertain at the time of their meeting.
The RBA’s next meeting is scheduled for May 4-5, with market expectations largely anticipating a further 25 basis-point increase in the cash rate, bringing it to 4.35 per cent.
Dual Shocks Threaten Consumer Spending
HSBC chief economist Paul Bloxham has issued a stark warning, suggesting that a combination of higher interest rates and an oil price shock could significantly curtail consumer spending in Australia. Mr. Bloxham, who previously worked at the RBA for nearly 12 years, forecasts that the Australian economy could contract in the upcoming three months as households tighten their belts and reduce spending.
He predicts that consumer spending could be reduced by approximately 1.8 percentage points as households prioritize mortgage repayments. Beyond the direct impact on disposable incomes, Mr. Bloxham highlighted that consumer confidence is also likely to be shaken, potentially amplifying the negative effects. He pointed to early indicators such as a sharp fall in weekly consumer sentiment, a decline in Australia’s Purchasing Managers’ Index (PMI) in March, and a drop in auction clearance rates as evidence supporting this view.
Despite these concerns, Mr. Bloxham believes Australia will narrowly avoid a technical recession, defined as two consecutive quarters of negative gross domestic product (GDP). He stated that while uncertainty is high, the confluence of local and global events makes it more probable than not that Australia’s GDP will decline in the June quarter. He also noted that the longer the conflict in the Middle East persists, the more disruptive it will be.
However, Mr. Bloxham outlined an “ugly scenario” where fuel prices surge to $US140 a barrel, the RBA raises rates twice to 4.60 per cent, and Australia enters a recession. He concluded that while tougher times are ahead and the extent of this is uncertain, Australia possesses several “adjustment mechanisms.” These include the Australian dollar as a key shock absorber, relatively low government debt levels offering fiscal policy flexibility, and the RBA’s capacity to deploy its monetary policy tools as needed.
