Cost of living is the number one issue for Australians and there is intense interest in the outlook for inflation and interest rates. But the outlook is uncertain. The RBA’s Deputy Governor, Andrew Hauser, pointed out in August that no one really knows what is going to happen next.
Policymakers – including the RBA board that meet next week – and businesses and consumers need to live with this uncertainty and plan around it. And, as RBA Assistant Governor Sarah Hunter recently said, “uncertainty makes decisions harder for everyone”.
But do we live in particularly uncertain economic times? There has probably been someone saying yes at every moment in human history, so we need to move beyond anecdote.
Enter a new survey coordinated by Associate Professor Ben Wang at Macquarie University, which asks financial decision-makers at Australian firms how uncertain is their outlook for inflation and interest rates.
Comparing survey rounds available for July and September this year indicates a decline in uncertainty about the RBA cash rate outlook. Uncertainty declined at horizons from 1 month to 3 years, but remained similar at the longer-run 5-year horizon.
Uncertainty about the inflation outlook also declined between July and September.
The survey collects more conventional ‘point estimates’ of cash rate and inflation expectations too. These generally declined between July and September, and the range of individual responses narrowed – another indicator that uncertainty declined.
Additional survey rounds will clarify trends in the data. For the time being, several things provide some confidence in inferring downtrends in inflation expectations and uncertainty.
First, the trend in inflation expectations is broadly consistent with related questions in the NAB survey of Australian businesses. Though the NAB survey does not ask about the uncertainty of expectations.
Second, inflation compensation in financial markets also declined around the time.
Third, the September survey included an experiment on the effect of priming respondents with their previous answer. When reminded of their July response, respondents tended to revise their response down by less. This is consistent with an ‘anchoring’ effect, similar to how a reminder of the RBA inflation target has been shown to anchor consumer beliefs. But, on average, those ‘reminded’ respondents still revised down both expectations and uncertainty, suggesting a deliberate move.
Let’s chance our arm at a narrative using the available data. It seems like the decline in inflation and cost growth pressures is leading firms to adjust down their own expectations and become less uncertain about the outlook. Recent moves towards rate cuts overseas, especially in the United States, were widely reported and probably contributed too.
It’s less clear if the RBA Governor’s comment in August that “a near-term reduction in the cash rate doesn’t align with the Board’s current thinking” made a lasting impression on Australian businesses. Though, in principle, it ought to have reduced near-term uncertainty about the cash rate.
If uncertainty is declining, that is good news for the economy.
Higher uncertainty reduces firm investment, hiring and consumer spending according to research in Australia and overseas. A drift higher in uncertainty and/or risk aversion may have contributed to some key macroeconomic and financial trends in the decade pre-pandemic.
Evidence in this new survey is consistent with the idea that uncertainty can discourage investment. Uncertainty about the RBA cash rate is correlated with uncertainty about the ability to access credit and loans, at the individual level.
So, a reduction in uncertainty could support productivity growth if it boosts rates of investment and productive reallocation of workers between jobs. Australia could do with more of both.
A reduction in uncertainty would also make life a bit easier for policymakers, to the benefit of all Australians. Less uncertainty about the direction of the economy helps redirect focus away from short-term issues like the next RBA decision, and towards the longer-run strategic direction of the economy and opportunities for productivity-boosting reform.
Ewan Rankin
Ewan Rankin is the Research Manager of e61’s Productivity and Entrepreneurship workstream, which takes a broad lens to understanding Australia’s productivity growth slowdown and areas of potential reform. Recent research explores the economic impacts of non-compete clauses, the rise of the care economy and trends in entrepreneurship in Australia.
Ben Wang
Dr Ben Wang is an Associate Professor of Economics at the Macquarie Business School. He is an applied macroeconomist who has used microeconomic data to understand macroeconomic issues. His recent research focuses on how businesses form expectations and assess uncertainty about future economic outlooks. Get in touch with Ben for more information on the Business Outlook Scenarios Survey (BOSS) and research opportunities.
