Making a Deal with the Devil – The RBA Wants to Stimulate Inflation

Making a Deal with the Devil – The RBA Wants to Stimulate Inflation

A foot long…

‘Yea’ high…

‘So’ big…

A smidge…

The other day…

Back then…

These are all units of measurement we commonly use.

However, about eight years ago, a new one entered the vernacular. Since the financial crisis…

Because since the financial crisis, so many things have changed.

And today is another example of that.

See, back before the financial crisis, there was a certain monster uttered in whispers in economic circles…

Dare they not say its name out loud.

Yet, the financial crisis completely changed how economists and governments look at things.

Suddenly ideas that were once universally accepted to destroy a healthy economy…are being touted as a good idea. Perhaps the savour of all these economic conundrums.

In reality, they’re just desperate to get the economy to how it was ‘back then’.

Which really means they’re going to completely destroy our individual wealth…

Friend of governments, but your enemy

You’ve heard of inflation.

The governments like to sell it as a good idea. Through inflation they say, you’re getting wealthier.

Sure, the value of your house and stocks may increase…but in the process your cash has lost its purchasing power.

Inflation is nothing more than theft.

It’s that simple.

Don’t allow them to dress it up for you.

It simply means that your dollars buy less and less over the years.

The reason why governments like inflation, is because it reduces the value of your debt. Nominal wealth increases for individuals. Your real wealth does not.

Governments like inflation so they can borrow more, knowing that in the future an inflationary increase in asset prices will make that debt look smaller.

It’s partly why governments and central banks allowed the ever-increasing loan amounts for housing to continue.

Eventually, they assumed inflation would reduce the housing debt in the long run.

But the thing is, ‘official’ inflation is non-existent.

As of today it sits at 1.6%, according to the Australian Bureau of Statistics. Well below the 2–3% ‘target’ band the Reserve Bank of Australia has.

The thing is, the official inflation rate has barely been stayed above 2% for longer than a quarter. And it’s been below 2% since 2018…

While every RBA statement makes a big song and dance about unemployment being too high (5.3% used to be considered near full employment…but that’s a topic for another day), yesterday’s rate change confirmed that low inflation was a problem. And they really want to get it up…

The thing is, by cutting the cash rate to 0.75%, they’re about to unleash a much bigger problem than you suspect.

The bad inflation

OK, let’s get started with a mini economics lesson.

There are various names for different types of inflation.

But there are two particular that describe the cause of inflation.

They are cost-push inflation verses demand-pull inflation.

Demand-pull inflation is a favourite of central banks.

It means that there’s lots of money in the economy chasing too few goods.

There can be several causes of demand-pull inflation.

The best case of demand-pull inflation is a sign the economy is growing.

Wages are up, so people spend more.

More and more jobs are created, leading to even higher wages.

Investments and house values increase. As long as this form of inflation isn’t used to borrow too much (and leads to asset bubbles), it’s a tolerable form of natural, free market inflation.

The flip side to this is where governments and central banking policies have created demand-pull inflation.

Like creating more money in the financial system.

Or altering credit policies to use credit as a driver to increase economic growth and then likelihood of demand-pull inflation.

Even just anticipating higher inflation means people are likely to spend more today, rather than waiting for the price of the good to rise.

Demand-pull inflation is what central bankers like.

And it’s what the RBA has been trying to create and maintain for two decades.

But then…the wheels fell off.

The badder inflation

The other side of this is cost-push inflation.

The baddy of inflation.

Mostly to you.

And until recently, something the majority of global central banks tried to avoid.

Yet yesterday’s rate decisions suggests to me the RBA are going to put a positive spin on making a deal with the devil.

Cost-push inflation is where prices increase based on higher costs of production and/or raw materials.

Now, in an economy where economic growth and wages are rising, rising production costs aren’t necessarily a bad thing. It can be absorbed by rising wages and general economic growth.

BUT…that’s not where Australia is today.

A decade ago, cost-push inflation was the death knell for an economy.

The argument is cost-push inflation is inelastic — that demand is fixed because it’s something people can’t go without.

Therefore the costs can rise because people must have petrol, electricity and gas to run their homes.

These are necessities that people need and can’t go without.

Rising prices people can’t avoid.

The problem is, allowing cost-push inflation actually reduces economic growth and lowers living standards.

Effectively, it means people have less money to spend on the things they want because of the things they have to buy.

Somehow in the last decade, economists and central bankers changed their tune.

Now they try to say that cost-push inflation is temporary…

…and that it will rectify itself and wages increase to keep up with rising costs.

That’s the lie they’ll sell.

But for us, it’s not about wages…

It’ll get worse…

The RBA will never admit they are about to stimulate the really bad form of inflation.

Yesterday I shared this with you:

It is reasonable to expect that an extended period of low interest rates will be required in Australia to reach full employment and achieve the inflation target.

The Reserve Bank of Australia has made it clear that they will do everything they can to achieve inflation.

The problem is, they’ve run out of ways to convince companies to pay people more and push banks to lend.

Both things that were meant to lead to demand-pull inflation.

But instead by lowering the cash rate, and telling us they’ll do it again to ‘achieve the inflation target’, they’re actually working towards creating cost-push inflation.

To get that, they’ve weakened the Aussie dollar.

And by reducing the value of currency, it makes all those goods we import from overseas more expensive.

The problem with the cost of imported goods increasing, is that it slows our ability to consume goods and services in the economy. Something that effectively stifles economic growth.

Like all foolish modern-day central bankers, they believe they can ‘engineer’ a certain type of bad inflation that will lead to the good inflation.

The thing is, this process cripples the way in which we get to spend our money, because so much of it is chewed buying the things we need to get by with.

They’ve made the deal, and now we’re stuck with it.

Until next time,

Shae Russell Signature

Shae Russell,
Editor, The Daily Reckoning Australia