The rising cost of living is crippling those once deemed relatively financially ‘free’. Imagine what it’s doing to those already living pay day to pay day.
If there is a light to be seen at the end of this economically dark tunnel, Australia as a nation must stop living beyond its means, and policy-makers must spend a little to save a lot, writes Professor of Economics John Hicks in the Charles Sturt University School of Business:
Prices rising faster than wages
Australians have been hit with rising interest rates, consecutively, reaching levels not seen for more than a decade. For many, this has crippled their financial world.
It has also been argued that other factors being equal, rising prices should be accompanied by rising wages, and therefore, ordinary Australians will feel little to no impact of the change. But this is not the ‘dream world’ scenario unfolding, and even if it were, it is not black and white.
Wages do not rise by equal amounts to the cost of living, but even if they did, they do not change at the same rate over time. The result, in the short-term, is people falling victim to financial crises.
Some are hurt more than others in these scenarios; for example, where the majority of their income is spent on life’s necessities ─ food, shelter, including adequate heating, clothing, and health. In these cases, the price of necessities often outstrips the growth in their disposable income.
Case for government intervention
In a civilised society, such as for those of us fortunate enough to call Australia home, there is a clear case for social assistance for people in this position and this will typically take place through government intervention.
But should that intervention come in the form of a rise in the minimum wage payment?
Many economists would argue the answer to this question is ‘no’, and for good reason.
As with any simple supply and demand formula, one small change at the beginning leads to potentially major alterations at the finish line. You can’t knock the first Domino over without watching the rest follow suit.
Put simply, prices directly impact choices around production, distribution and overall efficiency. Hence, if you raise the price of wages, you can end up raising the cost of goods for the average consumer – including those with their shiny new income.
However, markets can fail, and some price signals can be misleading. Unfortunately, this invariably happens in a period of high inflation. The obvious response is to bring about an end to inflation, but this is easier said than done.
We all have expectations about what we want in life, and many of these have been formed by past events. If our living standard has been improving regularly over time, we expect this to continue.
The impact of disruptions
Unfortunately, such expectations do not consider war, such as in Europe, supply disruptions throughout the world, or natural disasters at home and abroad.
When such disruptions are of significant magnitude, the ability of our economic system to meet our expectations is thwarted.
Demand for goods and services within the economy currently exceeds our ability to supply those goods and services demanded, and if this excess demand is not curtailed then prices are, inevitably, going to rise.
Our economic system does not, if only temporarily, have the ability to meet our expectations, and the cost of this failure will be distributed throughout society.
The issue then becomes, how high will these costs be? And how will they be distributed? If nothing is done to curtail inflation the costs may be considerable in terms of lost production.
At the extreme, the evolution of the inflationary process into hyperinflation will see the complete destruction of the price system accompanied by utter turmoil in a dysfunctional economy, where work will only be undertaken if payment is immediate and, once paid, recipients have the opportunity to spend the income before its value can be decimated.
In such an environment, barter will become the means of exchange, and those having little to barter with will bear the biggest brunt.
Action on multiple fronts
One would not expect that, in a modern economy, it would come to this. Surely, eventually, action will be taken. However, the greater the delay in acting, the more difficult it will be to bring inflation under control – and the higher the unemployment penalty of doing so is likely to be.
Similarly, if the government fails to act on all fronts simultaneously, the load being borne by those policy measures that are put into play to reign in inflation will be all the greater to the extent that complementary policy options are ignored.
In sum, failing to deal with inflation is quite literally costly business. Very few people, if any, will escape at least some level of detriment.
Invariably, the total cost of an unfettered inflation will be higher than the costs of successfully bringing inflation under control.
However, there will be costs and, to a large extent, the incidence of these costs will depend on the policies adopted to control inflation and the speed with which it can be arrested.
The unspoken issue, which few want to address, is that, as a nation, we are currently trying to live beyond our means.
A potential solution, as the Governor of the Reserve Bank is constantly pointing out, is to raise our productivity to match our lifestyle expectations.
Yet, this cannot be done in the short run and, inevitably, will come with costs of its own before the elusive ‘happy medium’ is found.
