Can the budget address cost of living without heating up inflation?

Macquarie University/The Lighthouse
OPINION: In handing down his third budget, Treasurer Jim Chalmers made efforts to alleviate the cost of living but he has a long way to go to reduce inflation. Dr Ben Wang from the Macquarie Business School explains.

Although COVID-19 is largely behind us, the pandemic’s aftermath continues to erode Australians’ wellbeing, in particular, by increasing the cost of living through high inflation.

On Tuesday night, Treasurer Jim Chalmers delivered his third budget, and addressing the cost-of-living challenge was front and centre. The key question from pundits: How would the government alleviate the cost of living without adding to inflation and jeopardising the Reserve Bank of Australia’s effort to bring inflation back to its 2-3 per cent target?

Addressing cost-of-living pain

There is a lot to like about this budget. Primarily, it helps reduce the cost of living in many ways, especially for those who need assistance the most. Among the highlights:

  • Every family is set to benefit from a $300 credit on their energy bills.
  • Each of Australia’s 13.6 million taxpayers will receive a tax cut.
  • The Commonwealth Rent Assistance payment will increase by 10 per cent, benefiting about one million people.
  • The three million people with student debt will now have their loan indexed to whichever figure is lower, national wages growth or the consumer price index, saving $3 billion in total.
  • The price of medications on the Pharmaceutical Benefits Scheme (PBS) will be locked for pensioners for five years.

It’s great news for everyone, as long as the budget doesn’t exacerbate the cost of living. But will it?

Keeping an eye on inflation

The Treasurer, as you would expect, has painted a rather optimistic view, saying: “The government’s targeted cost-of-living measures are expected to reduce inflation, with energy bill relief and Commonwealth Rent Assistance expected to directly reduce inflation by 0.5 per cent of a percentage point in 2024–25.”

It is hard to see how these cost-of-living measures will not add to inflation if people decide to spend the money they pocket as a result, rather than save it. According to the budget, $7.8 billion will be injected into the economy specifically to alleviate cost-of-living challenges. This equates to roughly 0.3 per cent of annual Australian GDP. To put that number into perspective, in the December quarter of 2023, the Australian economy grew by 1.4 per cent.

This is not a trivial number, especially considering inflation is still uncomfortably high and stubborn. The spending will add to demand, prevent lower inflation at best, or increase inflation at worst. And high, persistent inflation implies a higher cost of living in the future.

Capping inflation in the long run

Much of the emphasis on the yearly budget cycle focuses on the winners and losers, but there will be no winners in the long run if projected challenges are left unattended.

One of these challenges is how to boost productivity in the economy, which has been stagnating for decades. Productivity not only underpins the future prosperity of the Australian economy, keeping the labor share of income in check, but it also curbs inflation in the long term.

There is no quick fix, and the pathway to boost productivity will not be unique, but a long-term view, and the careful scaffolding of resources will help sustain Australia’s economy well into the future.

Dr Ben Wang (pictured above) is an Associate Professor in Economics at the Macquarie Business School

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