Speech Interview with Money News, Nine Radio

So first and foremost, we need to start with the big story, which you guys continue to allude to over and over for good reason. It’s the landing of inflation. Do you feel that we are getting there despite the fact that there are signs something like service inflation is sitting at the top of the band and goods inflation is sitting at the bottom of the band? Are we tracking in a direction that makes you confident that you’re going to land the plane?

It’s an excellent question, and as you can imagine, it’s something we focus on a lot here at the RBA. Look, I think we’ve made really good progress on bringing inflation down, as the Governor said as well. Inflation was up at close to 8% at one point, and we’ve now got it back inside the target band, underlying inflation, and that’s a really great achievement. And we’re not far off that midpoint. So hopefully, we’re pretty much there and hopefully we can really keep inflation around that midpoint of the target band going forward from here. As you alluded to though, in the latest monthly data, the last two months that we have, we did see some signs of inflation coming through a little bit stronger around housing costs and also market services. That’s a bit stronger than we were anticipating. So we’re definitely going to be watching that. And obviously, as a forecaster, things always play through a little bit differently to what you’re expecting.

So for us here at the bank, that means we update our forecast and then we provide that advice to the board so that they can set policy. But really, the job from here, as you say, is to make sure that we keep inflation around about that midpoint of the target band. We know that’s what’s best for the country and that’s what we’ll really be focused on.

So one of the parts of that services led area is something like rent. Rent at the moment according to the latest totality data and also for PropTrack is moving at about 4.1 per cent. How are you taking that change, particularly considering how large housing is inside the inflation basket, into consideration and what that might do to your forecasts around rates?

Yeah, it’s a really great question. We’re definitely watching rent, watching housing inflation more broadly. As you say, it is a big component of the overall basket. In terms of how we see rents playing out from here, we’ve been seeing the softening in rents for some time. We weren’t expecting too much more of that to happen, but we’ll certainly be looking to see if we get a significant turn up and that’s something that we would monitor going forward. It’s one of the factors that goes into our outlook for the economy. And really, when we’re setting interest rates today, what we’re really trying to do, think about is, where do we think things are going to be in 12 to 18 months? Because that’s when an interest rate decision today has the most impact. So we’re always looking ahead and we’re always thinking about what might be happening to rent, say, and to other parts of the economy. But it is something that we’re watching.

We’ll have more to say in an updated set of forecasts in November, and obviously the Board will make its decisions then. But we’re always responsive to how the data plays out and how the outlook might shift. So the August forecasts were what they were, but they’ll be changing in November and they’re always evolving. So it’s a constant monitoring job.

Is there any other parts of the inflation figures that are sort of catching your attention? You know, your latest sort of Senate testimony is that you are aware that there are things that have come in a little bit hotter than you were hoping. Outside of housing, what else is catching your attention?

Yeah, so the other component that we pay quite a lot of attention to is market services. There’s a couple of reasons for that. One, as a group all together, it’s a relatively large chunk of the CPI as well. But two, it’s also because it’s very influenced by domestic conditions. It’s also a part of the CPI that we know monetary policy can have a particularly large impact and the contrast would be something like petrol prices. They’re really set on global markets and we don’t have any influence over those. So we will look through volatile items like petrol, but we do focus on core underlying inflation items like market services. So we did see some signs that some of those market services were perhaps a touch stronger than we expected them to be in our August forecast. So that’s a watch point as well. And that information is flowing into our November forecast update that we’re working through at the moment.

And so those two areas in particular, in terms of inflation perhaps being a bit stronger, housing and market services, they’re where we’re focusing our attention at the moment.

Other thing that’s happening in the inflation figures that’s coming up is that you are actually about to navigate into the monthly figures in terms of being the full suite and full basket of what’s going to be on offer. Can you take me through the amount of work that your team has done leading up to this, but also what your team will be doing with that data going into the future, because it is going to be what the RBA is going to base its assessments on going forward, and how a monthly read will be different to a quarterly read.

Yeah, great question, because this is a once-ever change to go through, so it’s very exciting. As a central banker and a macroeconomist and the team here, we’ve certainly been doing a lot of work on this. And it’s just great. We’re so pleased that the ABS have been able to build this out and put this in place for us. It really is going to make our jobs, or at least the information that we have, will be much more frequent. We’ll get 12 reads a year on inflation rather than four, so it’s fantastic. But what we do know is that to begin with, there is going to be a bit of a transition period. So the reason for that is that one of the really important things that we need to understand about inflation and inflation momentum is we need to be able to look through seasonal changes in prices. So a really great example are the Black Friday sales. The prices of many things will be what they are just before the sales start and then they’ll obviously come down when the sales kick in. Now, you know, Black Friday’s been around for a while now, so the ABS have got a bit of a handle on it. They know it happens at the end of November every year and so on and so on. But what the ABS are working through at the moment is that some parts of the CPI, where they’re collecting the data on a monthly basis now, they actually don’t have enough data to fully know and understand what the monthly seasonal patterns are. They know what the quarterly patterns were from before, from the previous series that they were producing, but they’re still learning about the monthly patterns. And so they’re learning, we’re learning with them. And just while that’s happening through that transition period, we’re going to keep looking at the quarterly trimmed mean series, which is where we take out these seasonal patterns and really look at the actual underlying momentum, as well as the monthly. So the monthly will give us extra information, which is fantastic.

It will really help us in our forecasting, in our advice to the board. But just whilst those seasonal patterns are being fully worked out and built into the data, we’re also going to keep looking at the quarterly series. And that transition period is going to run for around about 18 months, maybe a couple of years. So the ABS are going to keep publishing that quarterly trimmed mean through to the middle of 2027. But it’s just a transition. And once we get onto the other side, we’ll have a full monthly, which, as I say, will be absolutely fantastic, a real step forward, and we’re all very excited for it.

So the other thing that is starting to eventuate on what has happened with movements in rates in 2025, and you alluded to it in your last meeting and likely to be in the minutes with what we’ve seen coming out today, is that house prices are starting to move. They’re moving, you know, slightly back towards the sort of levels of speed of change that we saw, you know, through 2022 and 2023. How much further can you see house prices moving, particularly considering, as you’ve alluded to, the cost of living crisis, also the fact that real wages are slightly better than inflation? Where does housing go with rates still expected to come down further, but also moving now to levels that some people would argue are unsustainable?

Yeah, it’s a great question. So what we do know, we’ve seen it in the past and we’re seeing it again this time and it’s not a surprise. We do know that when we start to cut the cash rate, you do tend to see a relatively quick response in the housing market. So house prices start to rise more quickly than they have been before. We’ve seen that many times in the past. It’s not surprising. We understand it’s obviously connected to the sort of borrowing capacity of people that are purchasing a dwelling. And so that does tend to come through. And so it’s not a surprise. It is actually one of the main transmission mechanisms for monetary policy. In terms of where house prices can go, we don’t target house prices. They’re not part of our mandate. We’re obviously concerned about inflation and about achieving full employment. We also have a responsibility around financial stability and making sure that the banking sector is resilient and stable, but we’re not targeting house prices, so we don’t publish a forecast for house prices in particular. And we do understand, I do very much understand that if you’re trying to get into the market, if you’re a first-time buyer, that affordability constraint is very real and very challenging. We know that governments are trying to tackle that, but as we said before in quite a few different forums, really the solution is supply, fundamentally. Interest rates do have an impact over the cycle, but interest rates go up as well as going down. And so when interest rates start to go up, we tend to see that house price growth at least slows. And actually, you can see declines in house prices. We’ve seen that in recent years. So, we have an impact in terms of timing, but really the structural fundamental in all of this is supply. We know there’s activity and efforts now to try and increase supply, but it’s going to take time.

Basically, because it takes time to build new dwellings, it takes years to get a new apartment block fully up and completed and to get those apartments into the market so people can buy them or rent them. So, really, that’s what we’re, you know, we’ve observed it in the past and that’s what we’ve said recently. This cycle isn’t likely to be any different in that regard.

The other thing that the RBA is also clearly showing in its forecasts and going forward is a rate of growth that is below historical trends. Your average is sort of around the 2%. Has Australia now got to a level of maturity that we need to accept, like all developed economies, that that sort of 2% growth is now going to be standard? And how that also filters through into things like consumer confidence, but also in our outlook for how our economy will be over the next couple of decades?

Yeah, it’s an excellent question. And as you’ve probably seen, we, recently downgraded our assumption for productivity growth, just to really reflect what we’ve been seeing on the ground and it took us a little time to fully understand what was playing out, because COVID had such a disruptive impact. But we now do think that that pace of productivity growth that we’re currently achieving is a bit lower than we thought before. I mean, I think in terms of that historical comparison, you’re right. We’ve seen a faster pace of trend growth, or the pace that can be sustained without generating inflation in earlier decades. Partly that’s because we have stronger population growth, particularly in the 80s and the 90s, but also we did have stronger productivity growth in those periods as well. In terms of the time horizon and what it looks like from here, we’re very focused on, entirely focused really, on the sort of two year horizon, two and a half year horizon.

That’s because that’s the horizon over which monetary policy has an impact. We’re not saying anything about what might happen beyond that. We could see stronger productivity growth in the future. Perhaps artificial intelligence really does start to embed itself and unlocks substantial gains for many sectors right across the economy, that other changes can play through as well. We’ve seen that in other countries. It’s not impossible to see that here. So we’ll be revisiting this issue and thinking about that going forward and revising our assumption if we need to in either direction in the future. And in terms of consumer confidence, yeah, it’s a really tricky one. We’ve seen relatively subdued levels of consumer confidence right across a number of advanced economies. So we’re not alone in this happening right now. We think that maybe part of the story there is the increase in the cost of living. So it’s just more expensive and people just got to get used to that again. And we’ve said it a few times. We’re trying to bring inflation and keep inflation low at around two and a half percent, but we’re not trying to bring the price level back down. So we won’t be going back to milk costing a dollar a litre. Remember that from pre-COVID. That’s not going to happen again. We don’t want that to happen. That would be a really bad outcome, If it did, it would mean the economy was in a really deep recession and that would be terrible. So maybe that’s part of it, that we’re all just slowly adjusting to that new cost of living. Maybe there is something what you said in terms of that momentum and pace of growth, although we’ve not really looked at that. It’s a bit of a puzzle, to be honest with you. I think we’ll learn more over the next few years as things finally completely normalize post-COVID, touch wood, I hope, and we’ll see where we’re at.

The final question that comes from all of that discussion, which was absolutely enlightening in terms of what you’ve just told us there, Sarah, is we are going to get the question of what is A, the neutral rate, and B, how many more rates down? Your forecasts, I know, are based on the market. It says two, but are you feeling that what you’ve done so far is taking the foot off but are still at restrictive? Can we see or understand what 2026 will look like from the RBA’s perspective with rates?

Yeah, great question. So in terms of neutral, I’d say a couple of things. One, it’s very, very hard to estimate. You get very wide error bands on these types of models that we use. And so neutral is only ever whatever you estimate it to be. It’s really a sort of long-run concept that’s looking through all of the different factors that might be, and shocks and everything else that might be, buffeting the economy today. If all of those things went away, what would be the neutral rate for the economy or rate where interest rates are not stimulating or restricting the economy? And so having said that then, it’s not really a target. We certainly don’t think of it as any kind of target or a number that we’re aiming to take the cash rate to.

What we’re really looking to do is, given everything else that’s going on across the economy, the global conditions, what might be happening in terms of that consumer confidence response we were just talking about and how that might show up in consumer spending, what government spending is, what business intentions are with respect to investment, all of that stuff put together, what do we think needs to happen to the cash rate to keep inflation around the midpoint of the target and keep us as close as we possibly can to full employment? And so all of those other things that are the reasons why the cash rate can be at different rates to neutral at any given point in time.

In terms of looking forward from here, yes as you said whenever we do a forecast, we have to put in an assumption, the cash rate we have to build it on something, typically we will use the market path, so in August that market path had around about another two cuts in, but that’s no guarantee for anything. I have been forecasting for a long time, I can say that my personal forecasts have been wrong many times, you get data come through in different ways than you expect, you get different shocks that happen that you can’t foresee at any given point in time, so we’ll see how things play through going into next year but really the job for the board is to take all of that new information that comes in, the updates to our forecasts and outlooks that we will give them. We have one coming in November and we’ll have going into next year as well and they will set the cash rate accordingly. So it is really no guarantee and you really can’t say definitely what the cash rate is going to be next year, we don’t know, but what we will be doing is advising the board who will be setting the cash rate to respond to what is actually happening, as I said to try and achieve the mandate, so try to keep inflation roughly speaking where it is today at around 2.5 per cent and to keep the economy as close as we can to full employment.