Unemployment isn’t answer to inflation

Inflation will fall here, whether or not we inflict the utter misery of unemployment on 75,000 workers and their families, writes Timothy Hazledine.

Opinion: Am I the only person getting angry about this? We are being told, from left and right, that our primary economic problem now is inflation: increases in prices and wages.

And what is our government doing about it? Nothing. New Zealand governments no longer do economic policy. They have outsourced the whole policy business to their wholly-owned, wholly independent subsidiary, the Reserve Bank of New Zealand (RBNZ) – our central bank.

And then, to compound their negligence, they haven’t given the RBNZ the tools needed to do the job. It’s like hiring someone to come and cut your grass, and then telling them, “Sorry, we don’t have a proper lawnmower. You’ll have to do the job on your hands and knees with these old hedge clippers. They are a bit blunt, I’m afraid.”

The blunt instrument that sits alone in the Reserve Bank’s toolkit is, of course, the interest rate. But it has certainly vigorously set to work with this tool, more than doubling the official cash rate (OCR) in 18 months.

So how could this cure inflation? In the words of the RBNZ’s chief economist, it can work by “slowing spending”. This is monetarist-speak for throwing people out of work and bankrupting businesses.

The idea is that by adding one or two percentage points to the unemployment rate, the remaining ninety-some per cent of the workforce and their employers will be too scared to increase prices and wages in case they are the next to go.

But will it work? They tell us that inflation is too much money chasing too few goods – that is, total demand in the economy getting ahead of total supply. But why will deliberately chopping supply by throwing people out of productive work narrow this purported imbalance?

Inflation is price increases. But the interest rate is a price – the price of money – and for many households with mortgages, this is the most important price they pay. And the Reserve Bank has just doubled it.

It seems that our anti-inflation monetary policy is two steps backwards before… well, we aren’t sure what the eventual pay-off will be.

What is the alternative? If our elected government accepted its duty of care over the economy, what could it do?

First, it needs to diagnose the problem correctly. We are not, or mostly not, experiencing a typical demand-pull inflation. With unemployment still around four percent, our economy is not ‘over-heated’. We’ve had unemployment around this level for 20 years now, without inflation.

It’s a Covid inflation that was driven by a supply push from the pricing side of the market. The initial transportation logjams caused by lockdowns gave shippers – especially container shippers – the excuse to drastically hike their prices. In the confusion, many other sellers of many other products discovered that they suddenly had, as one analyst put it, “real pricing power”. And, boy, did they use it!

It is absurd to expect these national and multinational corporations to be deterred from exploiting their pricing power due to increases in New Zealand’s home mortgage rates.

So what could we do? First, we could give the Commerce Commission, another wholly government-owned independent subsidiary, a mandate to shine a light on pricing and pricing practices throughout our economy, and the power to enforce rollbacks when they find blatant abuse of market power.

We could extend our drug-buying agency, the very successful Pharmac, to sourcing other products and services – including medical services – at lower prices from international suppliers.

The government could descend from the Beehive to enter into tripartite discussions with unions and employer organisations to seek some agreement on what, as a nation, we can and cannot afford to pay our workers.

We could provide instant cost-of-living relief by cutting GST, which could easily be paid for from the torrent of extra tax revenues generated by inflation.

And/or we could just wait. As the Covid smokescreen wafts away, inflation is already falling globally, and it will fall here, whether or not we inflict the utter misery of unemployment on 75,000 workers and their families. So let’s not.

Keynesian economists have a useful saying: “Anyone who recommends unemployment as the solution to our problems should themselves be the first to be made unemployed.”

Not a bad slogan for an election year, eh?