Life on the West Island - Missing the target

West Islanders could be forgiven for thinking that the primary role of the Reserve Bank is to combat rising inflation. After all, its Governor repeatedly says that it will take all necessary measures to keep West Island inflation in its target range of 2-3% pa. Because of that, the Bank has continued to raise interest rates at a record pace, with eight consecutive monthly increases in its benchmark cash rate since May 2022. Another rise is likely next week, further adding to living costs for those with mortgages and people who are renting. So far, these rises have failed to bring inflation down – in fact, it reached a peak of 7.8% for the calendar year 2022. It could thus be argued that the Bank is failing in its main duty.

However, the primary role of the Bank, as specified in the Reserve Bank Act 1959 is to deliver full employment. Australia Institute economist Richard Denniss points out that…inflation doesn’t actually rate a mention in (the Bank’s) legislated objectives, let alone the need to deliver 2-3% inflation.

Recent ABS figures might suggest that the Bank could have been more successful in delivering full employment, but Dr Denniss disagrees. He says that the ABS figures are based on a long-outdated mechanism for measuring unemployment which might have been satisfactory in the West Island economy of 1960, when it was adopted, but is now giving a false impression that unemployment is low.

There are several well documented problems with measuring unemployment levels using the 63 year old formula which remains in place. Primarily, it classifies anyone who worked for one hour or more in the week of the ABS monthly survey as being employed. As well, there have been major changes in the workforce which are not accounted for in the ABS figures. In 1960, men overwhelmingly worked fulltime, while only a third of females were in the labour force, and many of them were required to resign if they married. The Arbitration Commission set the basic wage as the amount a man needed to earn to care for his wife and children. Casual and contract work for men was rare. Consequently, the ABS figures were based on the number of people (mainly men) defined as being in work, not their hours or the quality of the work.

Changes to the workforce – such as much higher female participation, the gig economy, deregulation and “labour market flexibility” have made the ABS measure of unemployment unreliable. Further factors such as underemployment (insufficient hours) and hidden unemployment (particularly people who want to work but cannot start immediately due to factors such as being a nursing mother or having caring responsibilities) are simply ignored in the official figures.

Dr Denniss examines what this means in terms of the unemployment figures relied upon by the Reserve Bank:

The unemployment rate is in no way connected to the number of people receiving unemployment benefits. If you are looking for work but your partner earns good money then you wouldn’t be eligible for the dole, even though the ABS might classify you as unemployed. And if you are single and broke because you had only two hours’ work then you would likely be eligible for unemployment benefits but the ABS wouldn’t classify you as unemployed. According to the ABS, no matter how briefly you are employed, you can’t also be unemployed. And for those with caring responsibilities – even if you were on the dole and actively seeking paid work but couldn’t start immediately – you wouldn’t be unemployed either. You would be a NILF – not in the labour force.

The latest data shows that about 491,700 people in Australia meet the official definition of unemployed and a further 892,800 are underemployed. All up, those defined by the ABS as unemployed and underemployed add up to 1,321,500 – or 13 MCGs worth of people looking for more work. Which is a lot more than the official unemployment level of 4%.

Philip Lowe and the RBA think that if unemployment gets ‘too low,’ then wages might rise ‘too fast’. And the RBA thinks that wage increases inevitably lead to price increases because firms have no choice but to pass on the higher costs, even though their record profits clearly leave them plenty of choices.

The RBA places too much emphasis on outdated measurement concepts. Using interest rates to slow economic growth isn’t good economic or social policy. And given that most of our inflation is being caused by world energy prices and the cost of building new houses, high interest rates won’t even do much to rein it in.

Despite the cogent arguments of Richard Denniss, the Reserve Bank continues to lift interest rates, imposing greater costs on both home buyers and those in the rental market – cheered on by most of the West Island financial media and politicians for its “war” against inflation. Could it be that all of them are missing the real target - working towards full employment and consequently improving the wellbeing of our nation and our communities?