Transcript of Question & Answer Session Three Questions About the Outlook

Thanks Luci, a great speech there and I liked your insights that orthodox economic outcomes will win in the end. I love that assumption, because there's some debate around that at the moment.

So Luci's agreed to take some questions from the floor, so who's got some questions? Paul?

The chart you put up on the breakdown of wages across the various industries; that one where they ended with the fall in wages growth of almost −4% strikes me as quite stunning. When I read the whole statement last week, I thought that was the one bit that just didn't seem like it fit with everything else. Because firstly, it doesn't line up particularly well with the wage price index. Secondly, if you look at what's going on in terms of output in the economy, you've got a pick up going on in the goods sectors. And thirdly, if you think about the various anecdotes about the pockets of wage pressure that's coming from areas associated with construction, infrastructure investment, residential construction, these are sort of goods-related areas. I just wonder how you reconcile the left panel blue line with the wage price index, and the rest of the things we know about that sector.

It's a very good point Paul, thank you for the question. And you're right, one of the ways to reconcile these things is, well, the data might just be misleading. Remembering of course we're only up to the September quarter on these data, and the reports of the pockets and the increasingly larger pockets has really been in the last couple of months. You might not have seen it yet in a year-ended September quarter number.

We find it surprising. It's clear that the income numbers are saying what they're saying, and they're coming from tax data and payrolls data, so it's not completely made up. Allocating that between industries may have some error, but the ABS does the best it can in getting the ‘I’ [income]-side of the accounts right, and this is really coming from average earnings per hour. It is quite stark, and these are more volatile than the WPI, and it just bounces back. But we also saw in all of these three industries there were periods where there was a big gap between national accounts, measures of earnings, and the WPI and typically what happens is the national accounts measure comes back to close to where the WPI is over time. So you have compositional shifts that don't go on forever and that sort of understanding is underlying our forecast of incomes coming back, which is really important for consumption growth.

But you're right, it just hasn't happened yet. And maybe the answer is data revisions, but we're not in the business of forecasting data revisions.

Listen, on your final chart where you've got a split there of household consumption into essentials and discretionary, I wonder if you could tell us what's an essential, and whether they are actually essentials or whether there's not a tonne of discretionary stuff in there as well.

Well I think what's one person's essential is another person's discretionary, but I haven't got the list of exactly how this is split up, and we can come back to you with the exact list.

No, I'm more thinking the options has got things like communications, health, education, it's got utilities like electricity, and they're deemed essential but when I was growing up, my mother turned off the hot water system. Now I walk around my house, and there would be a dozen little lights gleaming where electricity is basically being used and being paid for. And communications, like how much internet do you need, how much mobile phone do you need? I've seen this recently popping up, but one of the things out there is that Australian's are doing so tough, and yet, Australian society has never been more affluent. And the things that are deemed essential today are often things that basically you turn the light, turn the switch and there's no cost anymore. That's the end of my speech but this is all coming into the analysis. I'm not sure how much of the essentials are actually essentials when things like private education and the needs versus new needs and all this other stuff, a lot of it is discretionary signed up as essentials.

I think someone who's in serious pain with their knees and hips would regard relief of that pain as being pretty essential, and healthcare as an essential. But I take your point, and how you split this up is at some level arbitrary. And so some of the categories - if you think about how mortgage serviceability is established by lenders, they think about what's your spending pattern, what's a typical spending pattern for someone of your income and of your family structure. And they think about if you have average spending on essentials and slightly below average spending on discretionary, and that's how they think about what a typical spending pattern is. That's how serviceability tests work.

So yes, you can argue about whether certain things should be in there, and okay I don't know maybe you switched your light off, but did you switch to LED? But I think one of the things that is happening, and we will be picking up more and more, particularly as the CPI is going to annual re-weighting, is we will pick up more and more of the spending switches that people are making not only between categories of spending but within categories of spending, and across retailers. And of course, as I mentioned with the retail competition, part of what is going on is that looking at the same product in the same store, that price might be rising, but what people are actually spending is less because they switched to a cheaper retailer or they're shopping on sale for the firms that still have sales rather than other pricing strategies.

So I agree that what's truly an essential you'll find out in dire straits. I think that is one of the considerations we think about when we think about, well if something in terms of the real tail risks to consumption, if something bad happens to the incomes of the segment of the population who have high indebtedness, if we think about what might happen to their consumption, well, yeah, they could start changing their consumption patterns quite drastically. And I think this is a good way of showing that there are early signs of people making those choices. Can we go back to bread and dripping and still live? Yes we can. How much would it take to make people do that? Well, it would have to be pretty dire.

You asserted earlier the line about inflation reaching a midpoint of the 2-3% band. I think the understanding earlier was that inflation would reach anywhere between the band, whether it's a floor or 2.25. But is it that 2.5 is now more important than being anywhere in the band?

I think the way I would characterise it is that we had extended the forecast period another two quarters in the most recent statement and the trajectory of the inflation forecast is up, so you get closer to that point - so we were describing where the forecast gets to with the longer period, I don't want to characterise that as any change in view. I wouldn't regard it as a change in how we think about the target and what it is that the Bank has been asked to achieve.

Peter?

I was just trying to work out, you know the NAIRU Estimate that you mentioned in that article last year, how do we think about the underemployment rate, which we know is getting quite high, those who have a job and might want to work more hours in that concept of the NAIRU?

Firstly, with the NAIRU Estimates there are huge error bands on that, so it's very difficult to be too precise about that estimate.

We did a lot of work about a year ago thinking about underemployment, because it wasn't coming down as quickly as you might have expected given what was happening to unemployment. But more recently they've come back again, in fact that was in this graph wasn't it? Yes. So the underutilisation rate, the purple line in this graph. They're not moving any differently at the moment, so you can't statistically disentangle a separate effect very easily, but it's certainly something we watch. And it's one of the reasons why we think in the event of an increase in labour demand, not all of that gets absorbed as formerly unemployed workers becoming employed. Some of it is people working more hours, who want more hours.

Just last one thanks.

I've got a two part one. Is the role of the RBA cash rate changing with regard to relevance to the broader economy with the actual lending rate to household indebtedness coming through? And then secondly, given the high level of household indebtedness, would the RBA ever consider a rate increment of less than 25 basis points?

In answer to your first question about whether the role of the cash rate in influencing other rates in the market has changed: I gave my first public speech as an RBA official in 2009. And at the time there was a lot of controversy about the fact that the banks were moving their mortgage rates differently from the cash rate. It's a long time ago now, but if I recall I had some line about there being no law in either statutory law or economic law that said that those two things had to move perfectly together and I stand by that statement from 2009.

On the second point about household indebtedness, would we consider a different increment: look, I think the imprecision of economic data, the imprecision of what we know about the world, there are certainly central banks that use different increments, but I haven't heard that conversation in this building. I think you can try and be too cute and too overly precise about these things. Economic measurement is hard, there's a lot of imprecision. Pretending that you know - certainly there are central banks who have gone below zero who are then doing increments of .1, but at the levels that we're at it hasn't been an imperative so far.

I was thinking more about, I guess, the sentiment rather than [unclear 00:10:55], in terms of what – like a 25 basis point hike of 150 obviously, low, like medium or how do you go down on that …

Yeah. We're conscious of the fact that at low interest rates, a 25 basis point move matters more for the percentage change in the repayment than it does when interest rates are higher. And actually, Paul Bloxham wrote a note about that when he was a new graduate here about 15 years ago. So that's something we're aware of.

Alright thank you Luci. Please join me in thanking Luci for her speech.