I have been sent the following guest post, by someone who wants to remain anonymous on account of his position in the public sector. (I know the author, but hey, here’s an offer to those hundreds of thousands of public servants out there – if you want to send me a post that’s worth posting, I’ll post it anonymously on Troppo for you.)
Recent moves by the RBA to move to a ‘leaning against the wind’ policy to head off incipient asset price bubbles is a welcome change for those of us who have advocated this approach for some time.
In the wake of the demise of the Greenspan doctrine that asset price bubbles are too hard to recognise, too hard to deal with and too benign to worry about, this is a logical response. It is an incremental approach and one that is not scaring the horses.
The other approach that may still be worth pursuing is one that improves the CPI measure (and underlying) used by the RBA to target inflation by incorporating house prices.
The CPI as it is currently is certainly not beyond improvement.
A variation of this approach was proposed late last year by Henry Thornton (the nom de plume of a prominent economist) on his blog and is worth real consideration. Provocatively dubbed “True Inflation” it is a work in progress and could do with a more theoretical detail, back testing and further debate but it is a great place to start.
The problem is always getting these innovative ideas once developed to be adopted. Ideally for True Inflation, Glenn Stevens would come out next month and announce that CPI based inflation targeting itself was overdue for the next step in its evolution and refinement, and henceforth the RBA would be adopting True Inflation as its main guide to interest rate targeting.
This is, of course, due to a very reasonable amount institutional inertia, extremely unlikely. But this is an idea that does need a champion to have any real impact.
In lieu of radical central bank change a potential protagonist in this story may be the Unions.
The Unions have so far been absent from the most significant attack on the real value of workers wages in a generation in decreases in housing affordability.
To engage with housing affordability, True Inflation, or an adjusted variant, could be consistently adopted by the Unions as the basis for all wage claims. In particular the ACTU in the Fair Wage case, State based lobbying for Government workers, and individual award negotiations.
The clear, logical and defensible motivation would be to stop workers seeing the real value of their wages eroded by the exclusion of the cost of housing.
As housing has already become unaffordable in Australia on a median income to median house price basis there may need to be a period of wages catch-up to adjust for the exclusion of housing from wages adjustment particularly over the last 20 years. True Inflation or a variant should then be able to ensure this ratio does not get out of hand again.
Adoption of True Inflation or a variant by the Unions would enable the Unions to engage directly and effectively with the housing affordability problem and to ensure that Union negotiated wages are no longer slipping behind in real terms by reliance on the false friend CPI.
I dislike commenting on anonymous posts, but ‘True Inflation’ doesnt look like a winner to me. For one, the series produced by Henry is too volatile and would mean an aweful lot of interest rate increases and decreases in short spaces of time, which I cant see happen.
Second, the ABS already produces a housing-price adjusted inflation indicator (http://abs.gov.au/ausstats/abs@.nsf/mf/6401.0/), but the problems with properly measuring housing prices are notorious so whilst there is an obvious reason to want housing prices in the index, it would probably be a more long-run index in order to smoothe out the measurement issues.
Third, the inclusion of the costs of financial assets (shares) is problematic because share price increases might just reflect what the EMH says it does, i.e. discounted future income streams. If future productivity or profitability increases and hence share prices rise, the ‘True Inflation’ index would rise but it is not clear at all that one would then want to say that inflation has increased.
Lastly, I am surprised an economist seriously argues that the choice of index is going to make a material difference to the actual wage increase a union can negotiate. Wage outcomes in a competitive market are not about the index but about marginal productivities and bargaining power, neither of which depend in any way on whether a union negotiator puts the CPI or the adjusted CPI on the table.
There are already indices for asset prices, and central banks do pay attention to them. They include equity prices — and why shouldn’t they, if we’re interested in speculative bubbles and the macroeconomic danger they pose?
But if we’re interested in real wages, while it’s true that new home buyers are adveresely affected by rising house prices, those who already own houses enjoy a capital gain — should that be factored into the CPI too? What the CPI, or a version of it, should argaubly include is a more elaborate component for accommodation than it does now.
There’s heaps of literatuer on this stuff. I sincerely hope that our public servants, at least the more senior ones, know where to find it, and don’t just make recommendations off the top of their heads. A bit of googling and a few links make a blog post a bit more credible too.
Housing costs are included in the headline CPI. Granted, they’re excluded from the underlying measure used by the RBA, but that is a matter for the RBA.
I don’t quite grasp the anonymous poster’s point. It would be useful if the poster could expand a little.
I also think the poster shows a lack of the minimum wages review. No single indicator is used as the sole basis for the ACTU’s claim, let alone underlying consumer price inflation. The ACTU’s submission to the minimum wages review is well over a hundred pages long, address the numerous wage-fixing criteria in the Fair Work Act.
Thornton used to write for Crikey when I had a subscription. I remember reading an article where he bemoaned the fact the US Fed had stopped collecting data on M3 and quoted Friedman – “Inflation is always and everywhere a monetary phenomenon.” – approvingly.
He then went on to describe contemporary inflation almost entirely in cost-push, demand-pill terms.
I was already concerned with how facile his opinions often were, but this is a pretty basic lack of understanding of differing theories.
I’m guessing he was published as part of the deal with Roy Morgan (the opinion in the column above is spruiking a Morgan product afterall), and I guess the nom de plume is required because a “prominent economist” is demonstrating a lack of understanding of 2nd year macroeconomics.