It’s part of Australian folklore: prices are always rising too quickly. Try to tell people that inflation, for many years now, has only been a couple of percent a year, and you’re likely to get a sceptical reaction.
Nonetheless, that’s what the Australian Bureau of Statistics’ (ABS) Consumer Price Index (CPI) series has said for some time.
And that series is important for the Reserve Bank (RBA), which uses it as its primary guide to inflation in the economy. It will be even more important from now on because the RBA has moved to base its monetary policy decisions on actual, rather than forecast inflation.
But maybe the ABS series is indeed misleading about the actual level of inflation. Maybe inflation has actually been significantly lower than we thought.
A new piece of research by the ABS has examined the role of particular products in driving inflation in recent years — and it has important ramifications for our understanding of the economy under the Coalition.
The report looks at the impact of the taxation levied on tobacco products and their inclusion in the discretionary category of goods and services that is used to help put together the CPI.
When it calculates the CPI, the ABS puts goods and services into two categories: discretionary and non-discretionary. The categories are pretty self-explanatory — discretionary goods and services are things we have a choice about purchasing. Non-discretionary goods and services are things we’re stuck with, like electricity, water and gas.
The ABS research team examined the price movements of both groups and the CPI in the eight years from 2012 to this year. That shows that prices of non-discretionary goods and services (14.8%) increased slightly faster than for discretionary goods and services (12.9%).
But take out tobacco — where price rises have almost entirely been driven by government taxation — and a significantly different result emerges: “excluding the impact of tobacco (which more than doubled in price over the period) resulted in lower discretionary inflation of 6.4%.”
That’s a big difference from a product that the overwhelming majority of Australians don’t use. According to the Australian Institute of Health and Welfare, which regularly surveys Australians about their drug use, just 11.9% of Australian adults smoke.
Overall, CPI rose 14% in the eight years examined. Excluding the impact of tobacco from the discretionary part of the CPI would have had a significant impact on inflation measurement. The researchers concluded:
Removing tobacco reduces cumulative discretionary inflation since 2011-12 from 16% to 8%. With ABS data showing that fewer than 15% of Australians are daily smokers, removing the impact of tobacco price increases from discretionary inflation makes it more representative of the majority of the population.
That would have had real effects. It would have fed through to lower cost and tax increases linked to CPI (like toll roads), or the age pension, which is partly based on CPI and another index based on pensioner consumption.
And it would have pressured the Reserve Bank — which spent most of the last eight years predicting wrongly that inflation was about to pick up — to reconsider its monetary policy a lot sooner than 2019, perhaps helping offset the extraordinary stagnation that gripped the economy under Scott Morrison prior to the pandemic recession.
All for the price of a ciggie.
And what about the cost of housing, which I believe is not included in the CPI? Is that true?
If it is true, what about the super-inflation of property prices, fed by a dysfunctional commercial banking system throwing money (and debt) at customers? Housing (whether rent or mortgage) is most people’s biggest cost, or one of the biggest.
That’d be non discretionary
Fed by immigration.
Not necessarily. The last couple of years have been the worst for house price growth, yet no mass immigration at all, hence the worker shortage.
Inflation is just a measure of excess money in the economy before it makes its migration to its natural home – the accounts of the wealthy. The lower the inflation rate, the more efficiently money is moving to the rich, where it stays. A high inflation rate is just too much rogue money on the verge of going feral before finally being corralled by the rich, Man-From-Snowy-River style.
Isn’t nature beautiful?
Interesting analysis. I feel tying wages, welfare etc. to the CPI is a somewhat lazy option for employers and policy makers, but there are no real alternatives that can match the sheer simplicity of indexing against the CPI (notwithstanding its shortcomings).
It’s amiss though to suggest the RBA don’t look at inflation with more granularity than the headline CPI figures.
Excluding the tobacco from the discretionary CPI would, I believe, have a negative impact on lower socio-economic and indigenous groups, as they are more likely to smoke (https://ncci.canceraustralia.gov.au/prevention/smoking-prevelance/smoking-prevalence-adults) . It would be dangerous for the RBA or indeed anyone to assume that actual inflation is “lower” by excluding tobacco, when it has a far greater impact on those people.
Actually I think this article is just plain wrong. CPI is calculated based on the ABS survey of household income and expenditure; what they actually spend, not what someone thinks is ‘discretionary’ or ‘non-discretionary’. The basket of goods and services purchased is what people actually buy, and if people aren’t buying tobacco it’s inclusion reflects that low consumption. Maybe the article is about some researchers who think a different method of CPI calculation based on what they think is discretionary or not. But that is not what is done now, and their alternative CPI is not the one used by the Reserve Bank for monetary policy. Even the example, of electricity as being non-discretionary is wrong. It might be non-discretionary to have the electricity connected, but how much you use certainly is.
I don’t think so Mark. The ‘basket of goods and services’ is entirely decided. Nobody has all the data about what people buy, not even the ABS. I understand the basket is nudged around as consumption trends change, but they are reluctant to fiddle too much as it mucks up the trend if you change weightings much.
There have been articles at different times in the last few years suggesting that the inflation figure understates the lived experience of many Australians. Entirely possible too. As a measure it has some value but it isn’t brought down from on high written on stone tablets. Its a statistical measure weighted to ‘average’ consumption, which nobody might actually have, given that is what averages are.
But it must be a better measure than productivity.
It’s based on the survey of households, not some made up basket. But on the whole I agree with you. Yes, somethings are excluded like nominal interest payments because of the circularity, particularly for monetary policy. And yes, different sectors of the community are affected differently, for example, old age pensioners. If pensions are ‘CPI’ adjusted for the whole population that will not reflect the inflation they see based on their different consumption patterns, like they don’t buy as much child care, private school education etc. And yes it is an average, which may not be what most people experience, just like vast majority of people earn much less than the ‘average’ wage because the few very rich push the average up. But this is not what the article is about (actually the article is quite confusing, so I’m not clear what it is about).
I just don’t get the discretionary versus non-discretionary bit. Where does this come from? Are the researchers suggesting some sort of weighting for purchases of goods and services with a high elasticity of demand and another for low elasticities (a bit like a monopolist engaging in Ramsey pricing as per electricity, and other networked industries). Or are the researchers suggesting some sort of patronising CPI based on ‘someone’s personal view as to what are ‘essentials’ versus ‘luxuries’? Is this heralding in a new (lower) CPI for pensioners that will reduced due their consumption on average of consumer ‘bads’ like gambling, wine and tobacco?
I’d be all for some good research on the limits of the CPI, including that it measures only the price (not value) of goods and services exchanged in the market economy like GDP, which only makes up about 60% of the real economy. AND people’s’ purchasing/consumption patterns over the last 50 years has been very significantly affected by people increasingly purchasing goods and services in the market economy, eg. childcare, pre-prepared family food, cleaning services, aged care services, disability care services which were previously procured in the non-market care economy. Maybe at no price, but certainly with value and at some cost. If CPI gives a zero price for goods/services provided in the non-market economy (or counts them as increased purchasing in the market when really it is just a transfer), then that would likely build in a huge bias.