Reserve Bank telling Government to slow spending to bring inflation under control, economist says

Wednesday, 23 November 2022

Reserve Bank Governor Adrian Orr discusses lifting the OCR by 75 basis points to 4.25%.

The Reserve Bank has sent a “stark” message to the Government to rein in its spending to help get inflation under control, an economist says.

The central bank on Wednesday hiked the official cash rate by an unprecedented 75 basis points to 4.25% to help bring inflation back within its target range of 1% to 3% from its latest reading of 7.2%.

It warned of further hikes ahead as inflation continued to increase.

In the summary of its meeting minutes, the bank’s monetary policy committee noted inflation pressure from fiscal policies was skewed to the upside.

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The Reserve Bank has sent a “stark” message to the Government to rein in its spending, one economist says.

“They're quite clearly saying there that the Government is contributing to inflation, or certainly not helping the case to get it under control,” said Brad Olsen, principal economist at independent consultancy Infometrics.

“If households are being hit with those higher costs, and having to readjust their spending, then the Government also needs to quite seriously consider its spending priorities and how it can best support efforts to rein in inflation.”

Olsen said Finance Minister Grant Robertson should carefully consider his spending plans in the half year economic and fiscal update due for release next month, which sets out the Government’s spending priorities for next year’s budget.

“There needs to be serious and careful consideration of what the budget spending looks like for the years ahead,” Olsen said.

“That doesn't mean wholesale cuts, but it does mean a slightly more cautious and more considered approach when it comes to spending.

The overall inflation rate gives a good measure of the bigger picture, but it’s just an average. Video first published August 30 2022.

“It could well be prudent to take a more considered approach, and be very clear on what priorities must be delivered and what other areas maybe aren't first cab off the rank and could even be deferred, delayed, or rescaled,” he said.

The Reserve Bank, which was independent of government, made its comments in a factual and well considered way, Olsen said.

“I wouldn't say the Reserve Bank is pulling their punches – their independence means that they will say what needs to be said, but they don't need to be overly political about it.

“But I think it would be naive for anyone to ignore what the Reserve Bank is painting, which is a high inflation environment, and a need to bring demand levels down across the economy to enable lower inflation. If that's the case, then everyone has a part to play and that includes the Government.”

Olsen said the Government needed to be more frugal rather than make wholesale cuts, and consider whether its hiring might be contributing to a labour shortage that was stoking inflation.

Infometrics says the inflation numbers may raise more questions about where to next for the Reserve Bank.

“Demand is outstripping supply across the economy and government is contributing to that,” he said. “Something's got to give.”

Reserve Bank governor Adrian Orr closed the media conference on the monetary policy statement by wishing everyone a 'wonderful and sensibly spending Christmas'.

Olsen said people must cut back their spending.

“That's the way that we will get inflation down,” he said.

While people may think they couldn’t make a difference as one person or one household, private consumption was a big part of the economy, making up about 60% of economic activity, he said.

“The combined shift in consumer spending and in broader household spending and consumption does and will have a material impact on how the economy goes and on those pressures that we're seeing more broadly,” he said.

He noted people were likely already cutting back their spending as higher costs for essentials such as groceries meant they had less money left over for other parts of their usual budget.

“People will be looking to trim a little bit more this summer as they go into the silly season and thinking a bit more carefully about what they spend - that will have an influence both on their own budgets, but also importantly, over time on inflation,” he said.