Will the Real Inflation Rate Please Stand Up

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So does power come from being rich and prosperous? Or you get rich and prosperous by being hard working and frugal? Power comes from living beneath your means? Hmm.

We take up yesterday’s question of where power comes from. In China – now the world’s largest energy consumer according to the International Energy Agency – most of the power comes from coal (about 65%). The rest comes from a combination of renewables, geothermal, nuclear, gas, oil and hyrdo electricity. When you’re the world’s largest consumer of energy, every little bit helps.

But how about a look in pictures to literally change your perspective? The chart below shows the world in terms of nuclear energy generated for domestic electricity consumption. On this map, which is based on 2005 figures, you can see that Australia is a virtual non-entity, dwarfed even by New Caledonia…the yellow blob of French origin to the right of the map. The map shows what proportion of total global electricity production from nuclear occurs in each country.

Source: www.worldmapper.org

You could argue that Australia is underepresented here because its share of total electricity production from nuclear is very small in the global context. And in that, you would be at least partially right. Australia’s share of total production is so small because it doesn’t produce any electricity from nuclear and apparently has no plans too.

Aside from the public policy short-sigtedness of this – especially if you believe that coal is killing the planet – what’s the investment story? There are energy exporters in Australia who can profit from China’s new energy pre-eminence. Among them are the coal companies – BHP, Rio, Centennial Coal, Whitehaven – the gas companies, the oil companies, the LNG companies, and the uranium companies.

If a single, over-priced, energy-efficient, short-lived flourescent globe is never lit by electricity from nuclear power in Australia, we reckon you could still make money from the global growth of nuclear That’s the subject we’ve taken up in the July issue of Australian Wealth Gameplan. And it’s why today’s notes will be brief. We’re going to try to meet a deadline for once.

But first, there’s a puzzle to solve. Today’s papers are full of stories on how the Reserve Bank of Australia will have to raise interest rates when it meets August 3rd, just 18 days before the Federal Election. The notes from the recent RBA meeting revealed two nuggets of…interest.

The first is that the RBA expects inflation to rise. Putting aside the fact that it would know this already since it’s responsible for inflation by keeping the real cost of capital below the market cost, the notes report that, “Headline inflation was expected to rise, owing to the effects of some tax increases, with the year-ended increase in the CPI rising above 3 per cent. The important question for the Board at its next meeting would be whether the new information materially changed the medium-term outlook for inflation.”

The “new information” is the reading on inflation for the June quarter. That data is due on next Wednesday. But here’s a prediction: the RBA will not look at asset markets to find inflation. Of course, it need look no further than house and share prices, which have been propped up by various means. Without inflationary policies supporting asset markets, share and house prices would already be a lot lower.

But if the RBA instead looks at consumer prices, you never know what you’re going to get. The calculations, with their seasonal adjustments, never seem to address the fact that most of us know intuitively: the cost of living is going up faster than wages. The RBA chooses not to report this because it shows that deliberately targeting 2-3% inflation a year as the bank does is another way of saying you’re going to reduce purchasing power (sound and honest money) as a matter of policy.

If you put it that way, people would rightly punch you in the nose. But let us not forget what inflation is: theft. When you are allowed to purchase goods and services with newly created money that you get to use first, you are trading paper for real goods. The creators of paper money – central banks, commercial banks, and the government, get to use that money before it dilutes the purchasing power of all the other money in circulation.

It’s a good deal if you can get it. But then, any time you can legally steal the productivity of others – getting the fruits of their labour at a discount – it’s a good deal, even if it’s deeply immoral and unethical.

The other interesting note from the notes is the extended discussion of the stress tests of European banks. The RBA is trying to sort out if more bank failures or higher capital requirements in Europe could threaten Australian banks that source a lot of their lending overseas.

To us, this is an implicit concession that the cost of capital in Australia is not really determined by the cash rate set by the RBA. It’s determined by the global cost of capital. What does that mean? Tune in tomorrow for more discussion.

By the way, how do you know the real rate of inflation is understated? Check out the table below from the Treasury’s updated budget review for 2011 earlier this month. Notice that Treasury is forecasting 9.25% nominal GDP growth in the next fiscal year. This generous forecast is part of what’s expected to bring the budget back into surplus (along with high commodity prices and a historically high terms of trade). But riddle us this: if the real GDP figures is just 3% and the nominal figure is 9.24%, doesn’t that mean that inflation is running at closer to 6.25%?

Click here to enlarge

Source: Economic Statement, July 2010

Dan Denning
for The Daily Reckoning Australia

The Daily Reckoning
The Daily Reckoning offers an independent and critical perspective on the Australian and global investment markets. Slightly offbeat and far from institutional, The Daily Reckoning delivers you straight-forward, humorous, and useful investment insights from a world wide network of analysts, contrarians, and successful investors. Founded in 1999, The Daily Reckoning is published in 7 countries with a worldwide readership of almost 1 million people.
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15 Comments on "Will the Real Inflation Rate Please Stand Up"

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89peterg
Guest

ditto the dodgy unemployment figures

also lol
http://www.worldmapper.org/textindex/text_violence.html
I like the way that military is included in this category (violence), as it should.

bearamundi
Guest
Back home now and quite surprised at the cost of some items compared to Finland which is regarded as expensive. My hire car home from airport was close to $100 for the day. In Finland I used Avis as well and the Renault was only $50 a day all up. I got a coffee on way home ($3.95) and a piece of loaf ($4.50), good quality but as expensive as-if not more-so, than that part of Europe. Australia is getting relatively high inflation. Also, everywhere I turn now I read something about China’s housing bubble. Prices are something like 22… Read more »
PremiumFinance
Guest

Very expensive in Australia compared to other countries but income is higher. Power comes from consistently hard work and corrects calculations. I think the Australian house bubble is already too high and will have serious consequences in the future, Australia needs to step up and take notice of countries in Europe and how many countries there have they went bust cause of the house bubble, Where are all these loans coming from to buy these high priced houses?

k
Guest

We have family visiting from England, and one of their comments has been how expensive everything here is! I can remember stories of Aussies visiting England and having $10 pints, now the reverse is happening.

Chris in IT
Guest
I think if you don’t want a housing bubble crash, then you probably want almost high interest rates for a sustained period of time to foster light deflation or ideally, just enough to stagnate growth until wages can catch up. The RBA however has limited control and will affect the whole economy with it’s single tool. I have a strong feeling that the big banks have been given some time to restructure themselves in to better quality balance sheets before higher rates (with inherent crash risks) are attempted. I bet we’re about to see a slow steady rise in the… Read more »
Biker
Guest
DD: “…if the real GDP figures is just 3% and the nominal figure is 9.24%, doesn’t that mean that inflation is running at closer to 6.25%?” Certainly the cost of building a home rose 6% last year. A quote to duplicate a design we built a year ago came in 6% higher. We suspect that with the likely exception of white goods and tech products, inflation on consumables may echo that data. Rents remain relatively flat, in the post-FHB vacuum, after the 2009 building spree. Despite that, we’re seeing some very silly rents asked. With global recovery predicted… and wages… Read more »
Ned S
Guest

Similar storey in Brissy Biker – I have a Dixon/Tamawood brochure dated 23/10/07. (They are project builders here and in NSW). Wag my moist pinkie in the air and take a punt and their prices are up about 25%. Comparisons are made a bit difficult by the fact that with steel presumably being dearer back then, it was the ‘upgrade’ option; While concrete roof tiles would seem to be the upgrade option now?

Biker Pete
Guest
We reroofed our three-bedroom guest cottage a few years back, Ned. The concrete roof tiles were absorbing rainfall and the roof timbers just couldn’t take the weight. All but one of ours are colourbond. Just one is glazed clay tile. (Bought that one. Too good a deal to pass up at $323K!~) I can’t see the cost of building coming down. Labour costs are rising, your $92 per hour sparkies(!) _may_ soon get that*… and all the experienced tradies are MMs here. No chance capital appreciation won’t keep pace with inflation… . * Especially in WA, where we already have… Read more »
Ned S
Guest

Was talking to a young lady this arvo (28 yo?) – She reckons she and her partner aren’t ever likely to own at this rate. Now I’m a bit bearish as you know. But between the two of us we pretty much agreed that if things haven’t corrected within 18 months then buy the most basic of apartments with the view to trading it in on a house of an acceptable sort (for them) and having it paid off by 45 might be the way to go? No prophesies from this corner though.

Ned S
Guest
Colourbond is good Biker. That and concrete block. Have a look at what goes into those buggers and it is hard is imagine the home not still being there in another 100 years. Having said same, my personal preference is still for brick exterior walls – To my eternal embarrassment I just simply prefer the look? But can live with granosited concrete PROVIDING they put eaves on the darn things … :) I’m a sucker for glazed concrete roof tiles with brick walls though – Lordy, that’s how houses really were meant to look! IMO. Unless one does the slate/shingles… Read more »
Biker Pete
Guest

“…then buy the most basic of apartments…”

I don’t really count my second house in our realty history, Ned.
Two bedrooms, Besser block, with a carport using their ventilated block… and a zincalume roof. New, but primitive. Great location, 100m from a nice white-sand beach.

My ambition was to own it outright, by 30… and I just made it.
Girlfriends had to ‘Go Dutch’. Every one of ’em understood, I might add…
even my FA… who thought it was a pretty commendable goal… ! :)

Ned S
Guest

Yeh, I live in a 300K dunger now Biker – Badly in need of a renovate. But it keeps the rain of my head. And means I don’t have to pay rent. When it comes right down to it, it would probably make considerably more sense to develop the property and move on. But I’ve got one good neighbour who I do actually enjoy having a yak with over the fence once or twice a week. So the motivation isn’t as high as it might be otherwise … We can be funny critters us humans hey? :)

Biker
Guest

My stuff is being blocked again, Ned. Had some great tax facts for you, but five tries have failed!~ :)

Biker
Guest

As per my comment re The Trades 27th July, this morning’s ‘news’:

http://www.watoday.com.au/wa-news/fresh-fears-of-housing-skills-shortage-20100727-10u0o.html

vaughan
Guest
Im an aussie living in germany. I recently spent a month back in the motherland enjoying warm water, waves and sunshine. What blew me away, was how the cost of living has increased dramatically in the last 2 years (since i moved to germany) Is our housing bubble filtering through to the cost of everything else? Is the mining boom creating a price boom domestically?? Its a real cowboy economy. Everyone pushing the price limit, and getting away with it, tempting prices to rise even more. Almost like they’re taking the piss with some prices asked. A ‘fair go’ no… Read more »
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