This week’s most important economic news internationally is the US Consumer Price Index. In his first speech to the now Democrat-controlled Congress, US Fed Chairman Ben Bernanke said that interest rates are currently at a level that is “likely to foster sustainable economic growth and a gradual ebbing of core inflation.”

While that is undoubtedly what Bernanke wishes for, there is still significant potential for US inflation to surprise on the upside. There remains a high level of resource utilisation, including low unemployment. Unless the housing slump eventually begins to impact upon consumer spending as predicted, Henry would expect US inflation to remain well above the 2% “target”.

Turning to Australia, the biggest data release this week is labour costs. Henry has recently focused on the potential for wage-push inflation and the ways in which this normal manifestation of a tight labour market is yet to emerge.

The recent upswing in inflation, along with the apparently tight labour market (unemployment at 4.5%), has led the experts to ask why there is little sign of wage driven inflation. This theory of course will be familiar to those who have dipped their toes in the cold waters of macroeconomics: the wage/price spiral is often described as a vicious circle process where “wages chase prices chase wages chase prices” and so on.

However, as the second graph makes clear, the recent rise in the CPI has not, as of yet, resulted in a subsequent rise in wages. As can be seen clearly the last time the CPI went through the roof (due to the GST), wages also shot up – this time it has not yet occurred.

Treasury official Paul O’Mara recently told a Senate hearing that “wage settlements have been relatively moderate, the wage price index and most of the measures of wages, have been quite stable around the 4.0% per annum mark. They haven’t shown particular signs of accelerating either in response to fuel or the strength of the labour market more generally.”

The December Quarter labour price index figures are being released this Wednesday. Henry expects the current trend will continue – despite inflation remaining outside of the comfort zone, and unemployment dropping below the traditional “full employment” level.

The Howard Government can thank China, and its low priced consumer goods, for keeping inflation below 5% over the past decade. It may be able thank China again for migrant workers. Australia’s new IR laws undoubtedly make workplaces more flexible and swing the balance of power toward employers, making it harder for employees to demand pay raises but increasing job numbers. (Economics tells us nothing useful comes free.)

This week sees another important data point almost certainly helping to maintain Australia’s “miracle economy” status.

Read more at Henry Thornton.

Peter Fray

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