Budget stunner is a permanently hotter economy

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That last point is worth teasing out. In its updated forecasts, Treasury now thinks there will be about 140,000 more people in jobs than it estimated in the last official budget update released just 3½ months ago.

And it thinks those extra jobs are here to stay.

By the way, those 140,000 extra people in work aren’t average Australians. They’re people who struggled to get jobs in years past because they were considered too old or too lacking in skills.

Those factors are now less of a liability in a nation that can run its economy consistently hotter than we had previously been trying to do.

It turned out that it was Australia’s robust reaction to COVID-19 that unlocked today’s recovery.

Take a moment to revel in that. The social dividend of a more inclusive Australia is magnificent.

Even better still, more jobs means a tighter job market. And that tighter job market means higher wages. That says the benefit from running the economy hotter than we used to isn’t confined just to those who get the extra jobs – it spreads out across the workforce more generally.

So, the improvement in the economy that Treasury announced in the budget wasn’t only due to the speed of the recovery from COVID-19 and the sky-high coal and iron ore prices. As important as those are, the lingering revelation from the budget is that the Reserve Bank was right.

In 2019, the Reserve Bank said unemployment needed to go lower in Australia if it was going to achieve its inflation target. Treasury was more cautious, because the Reserve was also saying that Treasury needed to break open the budget piggy bank to do that.

That looked like stalemate. But then came COVID-19.

You wouldn’t wish a pandemic on anyone. Yet, it turned out that it was Australia’s robust reaction to COVID-19 that unlocked today’s recovery.

We threw the kitchen sink at COVID-19. The Reserve Bank dropped interest rates to nothing and started printing money. And the government stepped up with JobKeeper and other programs.

In combination, that stomp on the policy accelerator meant that, once we could open up after COVID-19, the Australian economy took off like a labrador chasing a pigeon.

But wait, there’s more. Treasury’s conversion to the Reserve Bank view of the world – the realisation that we could sustainably run the Australian economy hotter than previously thought – has another huge implication.

It’s that financial markets desperately need to switch to decaf.

Right now, markets are pricing in a view that sees the Reserve Bank as starring in a remake of the Texas Chainsaw Massacre, with its cash rate seen hurtling up towards 3 per cent (from today’s 0.1 per cent) in less than 18 months from now.

Err, why would the RBA do that? If rates hurtled up at that speed, it would drive a wrecking ball through Australia’s economy, driving unemployment rapidly up even though the RBA keeps saying that it wants to “lock in low unemployment”.

“There’s a huge benefit to the country of having people in jobs … so, while ever we can, we’ll keep interest rates very stimulatory to get people back into jobs. And how long can we do that for? I’m not sure, but that’s a priority at the moment.”

So, here’s a second happy thought for you. It isn’t just the job and wage dividend that Treasury now expects to see. It’s also that interest rates may be on a much more gentle trajectory than the market expects.

Yes, the fistful of dollars waved in the face of the punters ahead of the election will boost pricing pressures and bring forward the day when the Reserve raises rates. Yes, they’re a waste of taxpayers’ money.

Yet, even so, the first rate rise in Australia may be rather further off than markets expect. And the eventual increase in rates may be much less than many fear.


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