Good morning chair and members of the Committee.
These hearings are an important part of the accountability process for the Reserve Bank and my colleagues
and I are pleased to be here to answer your questions.
I will start with a discussion of the inflation situation and the economic outlook. I will finish with an
update on our priorities in the payments space and the cash distribution issues that the industry is
dealing with.
Inflation
The Reserve Bank Boards mandate is to contribute to the welfare of the Australian people by
delivering price stability and full employment. This mandate is set out in the Reserve Bank Act
1959. The Statement on the Conduct of Monetary Policy, agreed between the
Australian Government and the Board, sets out how this works in practice. Specifically, we have agreed
with the government that the best way of achieving low and stable inflation is to aim for annual consumer
price inflation of between 2 and 3 per cent. While all outcomes within that range are
consistent with our price stability objective, the Board sets policy to return inflation to the midpoint
of the target. But the agreement with the government provides flexibility around the timeframe in which
we meet our inflation objective. This is because we need to balance meeting our inflation objective with
our full employment objective – achieving the maximum level of employment that is consistent with
low and stable inflation.
The reason I set this out is to give context to the Boards current strategy for monetary policy. The
Board is trying to bring inflation back to target in a reasonable timeframe while preserving as many of
the gains in the labour market that we have seen in the past few years. This is the so-called narrow
path.
So how are we doing? Since our previous appearance before this Committee, there has been further progress
on inflation, but it has been very slow. Inflation peaked at 7.8 per cent in the December
quarter 2022. It came down to 4.1 per cent at the end of 2023 but since then has only declined
a further 0.3 percentage points to 3.8 per cent in the June quarter 2024. Underlying
inflation, which abstracts from volatile components of the index, is also still elevated at
3.9 per cent in June 2024. This remains too high. Our current forecasts have underlying
inflation by the end of this year still sitting around 3.5 per cent.
What is driving this persistent inflation? A lot of it reflects inflation in services. Most of the
disinflation we have seen since the peak in December 2022 has been driven by a decline in goods price
inflation. Through 2022, there was very high inflation in goods prices, reflecting supply chain issues at
a time of strong aggregate demand. Prices of groceries and consumer durables and new dwelling
construction costs all surged. Inflation in many of these goods has since eased substantially, except for
new dwelling costs, which are still increasing by around 5 per cent on an annual basis.
Inflation in services prices, on the other hand, has remained high, running at around
5 per cent. There has been broad-based inflation in market services, reflecting continued
demand and the ability for some businesses to pass through costs. Other contributors to high inflation
have been rents and insurance, reflecting conditions specific to those industries. All of this has meant
that while goods price inflation has declined substantially, it has not been enough to offset continued
high services price inflation.
This situation is not unique to Australia. Most advanced economies have experienced a similar pattern of
inflation – a spike in inflation owing to goods and energy prices, followed by a sharp disinflation
in goods prices but continued high services price inflation. As a result, other central banks are
remaining cautious about the future path of interest rates. Some have decreased their policy rates a
little but they have been emphasising that the job is still not done and policy remains restrictive.
Likewise here in Australia. We did not increase interest rates as much as some other central banks. And we
have received some criticism for that. Indeed, some commentators continue to call for further tightening
in monetary policy. But as I noted earlier, we have been trying to balance bringing inflation back down
over a reasonable timeframe, without inflicting unnecessary damage on the labour market. And the
Boards judgement to date has been that policy is currently sufficiently restrictive to do that.
The Boards recent decision
Which brings me to the Boards most recent decision. At its meeting on 5 and 6 August, the
Board decided to leave the cash rate unchanged at 4.35 per cent. It recognised that while
inflation had fallen substantially since its peak, it is still some way above the midpoint of the 2–3 per cent target range. And as I noted earlier, inflation
is proving persistent. But the Board remains vigilant to upside risks to inflation and noted that policy
will need to remain sufficiently restrictive until it is confident that inflation is moving sustainably
towards the target range.
Prior to our decision, markets had brought forward their expectations of a rate cut following inflation
outcomes in the United States and the June quarter CPI in Australia coming in a bit lower than expected.
Then volatility in international financial markets resulted in further declines in interest rate
expectations. Financial markets are still pricing in a rate cut by the end of the year. The Boards
message, though, was that it is premature to be thinking about rate cuts. Inflation is still too high
and, in underlying terms, is not expected to be back in the top of the band until the end of next year.
Circumstances may change, of course, and the outlook is uncertain. But based on what the Board knows at
present, it does not expect that it will be in a position to cut rates in the near term.
I understand that this is not what many households want to hear. Those with mortgages are feeling the
squeeze on their cash flows from the increase in interest rates over the past couple of years. Businesses
too are facing higher borrowing costs. But the alternative of higher inflation for longer is much worse.
Inflation has not been this high for a few decades and I think many people have forgotten how bad it is
– some younger people will not have experienced high inflation at all. There is a reason why there
is so much talk about the cost of living – high inflation hurts everyone. It reduces what people
can buy with their wages, erodes the value of savings, and it disproportionately hurts those on low or
fixed incomes. This is why it is imperative that we do what we need to ensure inflation returns to levels
at which it is in the background again.
Economic outlook
That said, the economic outlook remains highly uncertain. The RBA published its most recent forecasts at
the same time as we announced the monetary policy decision. As I noted earlier, the central forecasts are
for inflation to return to the target range late in 2025. It is forecast to approach the midpoint of the
target band in 2026. This is a slightly slower return to target than we were forecasting in May. It
reflects a judgement that the gap between aggregate demand and supply in the economy is larger than
previously thought. That is, even though growth in the economy has been weak, the level of demand for
goods and services is still higher than the ability of the economy to produce those goods and services.
These are our central forecasts and there is substantial uncertainty around them, more so the further out
the forecasts are. Recognising this, we highlighted three key risks in the Statement on Monetary
Policy: more excess demand in the economy at present than currently assessed; consumption
growth in the future stronger or weaker than expected; and the labour market deteriorating by more than
expected. The Statement provided some scenarios to demonstrate how different paths for the economy might
affect the outcomes for inflation and employment. The scenarios show that if consumption or the labour
market are weaker than expected, inflation could return to the target band more quickly and the
unemployment rate could rise more sharply. And the reverse could occur if consumption and the labour
market are stronger than expected. These scenarios are important because we know that economic activity
and inflation could be much stronger or weaker than implied by our central forecasts. So we need to
understand the implications for the economy and how monetary policy will have to respond if things turn
out differently.
My colleague Andrew Hauser gave a considered speech on the issue of uncertainty on Monday. The key point
was that we know the future is uncertain and that we therefore need to be humble in our forecasts,
willing to learn from our errors, a diverse range of models and qualitative intelligence, as well as
internal and external challenge – and to respond as the economy evolves. The Board is conscious of
this, hence its commitment to be driven by the data and to adjust its assessment as necessary. The Board
is of the view that it currently has the balance right between reducing inflation in a reasonable
timeframe and maintaining the gains in the labour market. Ultimately, our full employment goal is not
served by letting inflation stay above target indefinitely. So the Board remains focused on the potential
upside risks to inflation.
Before I finish, I want to say a few words on the payments system and issues in the cash distribution
system.
Payments system
The Parliament is currently considering some important amendments to the Payment Systems
(Regulation) Act 1998 (PSRA) that will enable us to promote safety, efficiency and
competition across all players in the payments ecosystem. Once the reforms are passed, we will undertake
a comprehensive review of our retail payments regulation. This review will consider the appropriateness
of our regulatory settings and principles, and how to apply them to emerging players and business models.
Many stakeholders would like to see progress on a range of issues, including the high cost of card
payments for small businesses, surcharging of consumers and competition issues related to mobile wallets.
The timely passage of the PSRA reforms will allow us to consider these issues in the broader context of
the RBAs expanded regulatory arrangements.
The Payments System Board discussed these issues at its quarterly meeting yesterday. It also discussed a
number of other issues that are important for the future of the payments system in Australia. This
included a paper that has been written jointly with the Australian Treasury, providing a stocktake and
roadmap on domestic research priorities relating to the concept of central bank digital currency. The
paper will be published in September. The Board also discussed developments in least-cost routing,
challenges in wholesale cash distribution and opportunities relating to improved access and functionality
for the New Payments Platform.
Banknote distribution
Another issue I would like to update the Committee on is recent developments in the cash distribution
system. While the use of cash for everyday payments has declined in recent decades, it remains an
important means of payment for many Australians. Cash is used as a store of wealth, particularly during
periods of economic uncertainty, and can be a useful backup for electronic methods of payment.
As you know, the cash distribution system came under considerable stress earlier in the year when the
financial viability of the largest firm providing cash-in-transit services, Linfox Armaguard, came under
question. Since then, the RBA, the Australian Treasury and key participants in the cash distribution
industry have been working together to strengthen business continuity arrangements, increasing the
ability of the industry to respond to a significant disruption to the supply of cash. In late June, an
industry support package of approximately $50 million over 12 months was agreed between Linfox
Armaguard and its major banking and retail customers, reducing the near-term risk of a major disruption.
The funding deal should provide time for the industry participants, the RBA and government to focus on
formulating a longer term model for cash distribution, so that cash is available for those who need and
want to use it. Developing a more durable future cash distribution system will require broad consultation
and require participants in the system to approach these issues in the public interest.
Thank you for listening. My colleagues and I look forward to answering your questions.
