Tony Harris on Treasury and inflation

Troppo regular Tony Harris published an op ed on Tuesday that set the cat amongst the pigeons. That’s for reasons you’ll appreciate when you read the piece. It was an interesting business. A software glitch saw the decimal points in Tony’s description of the state of the CPI at different times lose their decimal points. Given Tony’s stature, journalists like Stephen Mayne, not noticing the obvious error took up the cudgels in favour of Tony’s case.

Was Ken Henry nobbled by Peter Costello? Did Treasury massage their own forecasts for political purposes or did something happen between October 15 and mid-December which caused the substantial increase in inflationary expectations? The public deserves a full explanation about who said what to who and why, a bit like we got with children overboard after the 2001 election.

He went on:

Meanwhile, Malcolm Turnbull was absolutely right on AM this morning when pointing out that inflation is one of those self-fulfilling things.

The more Wayne Swan and Kevin Rudd talk about Australias “major” inflation problem, the more this will self-fulfil through wage claims and price increases.

Thanks Stephen – good point. The Government shouldn’t announce that inflation is the number one economic priority. They should say something else is while inflation rises out of its target zone and heads towards four percent. Malcolm is quite right, if the government didn’t flag it as a major priority we could get through this period without the market noticing.

Then another journo, not noticing the obvious error, hopped into Tony’s piece suggesting it was a piece of slime.

Harris revealed a complete inability to understand the difference between ‘headline’ and ‘underlying’ inflation, by dismissing the (headline) September quarter number (published after the MYEFO/PEFO) as “only” 1.9 per cent.

Yes, but the underlying number would go past 3 per cent. Setting alarm bells ringing at the RBA.

And it had already accelerated in the June quarter towards 3 per cent, clearly the reason why Treasury increased its inflation forecast in the MYEFO/PEFO.

There was no conspiracy, there was no sudden shift in Treasury’s inflation outlook. Just this astonishing piece of work.

Why astonishing? Because Harris used to be NSW auditor-general. The grovelling apology in today’s Fin Review could be worth reading.

Then Stephen Mayne, hopped back in.

The basis of the Harris article was that the MYEFO – the Mid-Year Economic and Fiscal Outlook – had benign inflation forecasts.
“Inflation is forecast to be 2 per cent in 2007-08 and 2008-09. In through-the-year terms, inflation is forecast to ease to 2 per cent in the June quarter of 2009,” MYEFO disclosed according to Harris.

The only problem with this is that it is completely untrue. The MYEFO had inflation forecast at 2.75 per cent in both 2007-08 and 2008-09.

This also means Crikeys lead story yesterday was wrong, although we can blame Harris.

Well, not Harris, but the software. How come all these journalists don’t go for the most obvious explanation – a stuff up (misprint).

Anyway, with all this excitement, I just knew that Troppo readers would need to see Tony’s original piece. Right or wrong, fair or not, it’s below the fold – with the relevant decimal points. And he tells me he’s publishing a second column in response to all this on Monday.

Stay tuned Troppodillians. Stay tuned. You heard about it first, second, third, fourth on Troppo.

Postscript: I know Troppodillians will want to listen to this important event in broadcasting. They can download the podcast from here.

It is almost certain that the Reserve Bank will this afternoon announce another interest rate increase. The Treasurer, Wayne Swan, has been preparing his response. Each of the 21 transcripts of statement which he has provided since his appointment includes comments on inflation. Other government ministers are also on song, making sure the former government is blamed for todays expected rate rise.

Swans worries about inflation were heightened immediately after the election. The Treasury briefing for Swan explicitly warned the new government about inflation telling him that the CPI would exceed the Reserve Banks limits for the next 18 months. But a little while ago, before the election, inflation was officially not a problem.

There was no concern on October 15 for instance. That was when the former treasurer, Peter Costello, released the Mid Year Economic and Fiscal Outlook for 2007-08. The timing of the publication was surprising: it was at least two months early and those preparing it did not even have the advantage of many official statistics for the first quarter of 2007-08. But it was a grand political vehicle for Costello to launch his $34 billion in tax cut plan. Costello assured us that his tax policy was not inflationary and the mid-year review agreed. Inflation is forecast to be 2 ¾ per cent in 2007- 08 and 2008-09. In through-the-year terms, inflation is forecast to ease to 2 ½ per cent in the June Quarter 2009.

That was an unexpected forecast. It was a reduction from the previous years CPI of 2.9 per cent and many – including the Reserve Bank – were publicly worrying about increasing prices. The review acknowledged inflationary pressures, but not those arising from injecting $34 billion into a stretched economy. It only cited higher food costs arising from drought and frost and it reassuringly concluded, Underlying inflationary pressures are expected to ease over the forecast horizon.

We can now see that the mid-year review was wrong. The forecasts of inflation might have been miscalculated by the experts. Another explanation is that the mid-year review misled because the government had turned an accountability document into a political advertisement. The review might have been organised by Treasury, but the content was finalised by Costello. And if the treasurer and his department had differing forecasts, the treasurer prevailed.

Eight days later, Treasury released its own Pre-election Economic and Fiscal Outlook. Although pre-empted by Costellos mid-year review, this publication was still required by the Charter of Budget Honesty Act 1998. And it was not Costellos responsibility. Its content belonged solely to the secretaries of the finance and treasury departments.

Treasurys pre-election publication had the same CPI estimates as the mid-year review: 2 ¾ per cent increases for 2007-08 and 2008-09 and an increase of 2 ½ per cent thereafter; nothing to worry about. These figures were meant to reflect, as the two secretaries attested, the best professional judgement of the two departments.

No explanation is available on what happened to change this benign inflationary outlook. We do not know why Treasury had to warn the new Treasurer about Australias worrying inflation only weeks after its pre-election documented reported that all was well.

It does not seem that the CPI figures for the September quarter – released a day after Treasury published its pre-election report – by themselves caused a change of heart. The CPI change over the quarter and over the year was only 0.7 per cent and 1.9 per cent respectively. And the change wasnt caused by the worrying CPI figures for the December quarter because they were published later, in January.

You can see that the budget honesty legislation imposes a formidable responsibility on public servants. If Treasury had published CPI forecasts which were materially different to those languid forecasts promoted earlier by Costello, it would have created a major problem for the Howard government just 32 days from the election.

Including politically damaging forecasts in the pre-election outlook would have upset Costello. But whoever won the election would have seen that Treasury could harm a governments election prospects by insisting on its own contradictory views. Although the requirements of law trump the reality of politics, bureaucrats would have been troubled by the political forces at work before the last election.

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Nicholas Gruen
13 years ago

I’ve not checked line by line, but I presume that where you see fractions – written by Tony in Word which then converted them into single characters or fractions in which the numbers were smaller than your normal numbers would otherwise be – the AFR software just junked them and so “2

Nicholas Gruen
13 years ago

Horribly broken software.

Newspaper software is unaccountably antediluvian – at least to us outsiders. I guess there’s a reason for it – but I could never figure out what it was.

stephen bartos
stephen bartos
13 years ago

I’ve had fractions drop out of articles – although not in the AFR – and it is acutely embarrassing (I’ve learned to only use decimal notation like 2.75). I feel for Tony. Hopefully he’ll have a full opportunity to correct the record.

Addressing the substance of Tony’s argument: surely the real culprit here is the then Treasurer’s pressure on Treasury and Finance to produce a so-called ‘mid-year’ economic and fiscal outlook based on only one quarter’s data. Costello had done it in other election years too, a ‘clever’ (irony alert) way to gazump the statutory PEFO and gain all the announcement value and spin opportunities that come from putting out an economic update as a government. It would conceivably have been open to Treasury to put different forecasts into PEFO – but what a dilemma that would have posed. It would instantly have opened up the question of which was accurate; caused investors and markets to doubt official forecasts (so causing not just electoral harm to the then Treasurer but much more importantly, to Australia); and in the event of a coalition win, been a career death sentence for whoever was responsible.

The official forecasts in the MYEFO I believe from the evidence on the public record would have been based on a reasonable reading of the data then available, not massaged by the Treasurer. Treasury and the other central agencies have retained a fair bit of independence on forecasts, for good reason. BUT if there’s a very tight line ball call on the difference between 2.75 or 3.0 then Treasury (or any other department faced with a similar call) would also consider the implications for their Minister of the announcement (no room for explication here, but the headlines would have been very different had MYEFO plumped for 3.0). So assuming there was a close and ambiguous line call at the time, it might have been a different had it been the Treasury delivering a PEFO, not the Treasurer delivering an absurdly early MYEFO.

Also worth looking at the numbers as a trajectory: with each successive bit of economic information (including data in between PEFO and Treasury’s incoming government brief) the case for a higher forecast of inflation has grown.