Introduction
Every country is concerned with expenses that households incurs when buying goods and services which help them to maintain their living standards. The price of goods and services usually raise over time which results to upward pressure in the living cost. According to David, Dilhan and Thomas (2014), Consumer price index (CPI) measures the inflation price which helps to determine the change in the cost of living. It helps to measure the change in price level of a market basket for goods and services purchased by households.
According to Mankiw (2002), the monetary policy in Australia has been targeting CPI inflation of average of 2 to 3 per cent over the past six years. He further stated that there has been an increase in cost of living for Australian households over the past few years.
Consumer price index
Consumer price index has played an important role in economic indicator over many years and it has directly and indirectly impacted Australian. It helps to determine the price inflation in the household sector and it is also used by Reserve Bank of Australia as a key measure of inflation in evaluation of monetary policy. Anil (2019) stated that the purchasing power of Australian dollar is dragged down by inflation.
Change in CPI results to regular modification by businesses such as insurance companies, rental industry, and child support payments.
Australia CPI basket
According to Moody’s analytics (2019), Australia CPI basket is comprised of wide range of goods and services which are arranged in eleven groups.
● Food
● Alcohol and tobacco
● Clothing and footwear
● Housing
● Household contents and services
● Health
● Transportation
● Communication
● Recreation
● Education
● Financial and insurance services.
RBA (2018) wrote that the consumer price index does not show the level of the price but it measures the rate of price change in the economy. CPI has some disadvantages as described below
● Coverage – CPI is used to measure change in item price in the metropolitan areas of Australia’s eight cities where almost two thirds of households in Australia lives. Therefore, CPI do not measure price changes in regional, rural or remote areas. It does not also consider the differences in spending patterns between individual households since some spends a lot more on a certain items than others.
● Quality changes – CPI only calculate pure price changes, it ignores the price changes that result from the quality of items fluctuations. The quality of items varies and a new products. The quality of items in the basket can vary and sometimes a new product is introduced. If item prices change due to improved quality, ABS does not calculate change in quality but they estimate the price changes by comparing the current price and the previous one, this can result to under or overestimation of the pure price change. When there is an adjustment in services, it is usually hard to measure the improvement since the changes often occurs slowly.
● Substitution bias- Substitution bias has an impact on CPI since it does not modify the changes in household spending behavior frequently. Some years back, ABS used to update CPI basket after 5 to 6 years but from 2017, they stated updating CPI weights every year which helps to reduce the substitution bias in the CPI.
● New products – New products are not taken into account by CPI as soon as they enter into the market. It is usually included when it attains a higher share in the market and when it is available to almost all Australian households.
● Cost of living – Often, CPI is used in measurement of changes in the cost of living but it is not the perfect indicator. Since CPI measures change in price, the cost of living inflation is the change in spending by households which requires to be maintained in order to give standard of living. The ABS usually publishes other indexes that intend to provide a better indicator of the cost of living.
Monetary policy
Monetary policy shows the relationship between interests rates in an economy which focus on money borrowing and the total supply of money. Various types of tools are used to control them and they have an effect on economic growth, inflation, exchange rate and unemployment.
The Reserve Bank is responsible for Australia’s monetary policy. Monetary policy is used to set up the interest rate on overnight loans in the money market which influences other interest rates in the economy, affecting the behavior of borrowers and lenders, economic activity and ultimately the rate of inflation.
In Australia, monetary policy is used to influence aggregate demand, employment and inflation in the economy through interest rates. The cash rate influences other interest rates in the economy which, in turn, influence economic activity, employment and inflation. Blanchard (2000) defined inflation as a continuous increase in general price level of goods and services in an economy over a period of time Blanchard (2000). He further stated that when the price increases, the consumer price index reduces. CPI can also be used as an indicator for the real values for salaries and wages in regulation of prices and for deflating monetary magnitudes to show changes in real values.
According to Bordo (2008), monetary policy deals with interest rates and availability of credit. Short term interest rates and bank reserves are the instruments of monetary policy through monetary base Bordo (2008).
There are two forms of monetary policy namely; decisions about coinage and decisions to print paper money to create credit Iyiola, R. & Adetunji, A. (2014).
Monetary policy is used by Reserve Bank Board to determine the interest rates. The role of Australia monetary policy is to stabilize the Australian currency, maintain full employment in Australia, and maintain economic prosperity and welfare of the Australians.
Growth of Australia CPI over the past three years
WE IGH T E D AVER A G E OF EIGHT
CAP I T A L CI T I E S Sep Qtr 2016 to
Dec Qtr 2016
% change Sep Qtr 2017 to
Dec Qtr 2017
% change Sep Qtr 2018 to
Dec Qtr 2018
% change
All groups CPI 1.9 0.6 0.5
Food and non–alcoholic beverages -0.2 1.0 0.9
Alcohol and tobacco 7.3 3.2 3.2
Clothing and footwear -3.0 -0.3 -0.2
Housing 3.4 0.3 0.2
Furnishings, household equipment and services -0.8 -0.8 0.5
Health 4.0 -0.5 -0.4
Transport 3.3 2.4 -0.7
Communication -3.4 -1.3 -1.3
Recreation and culture 0.6 0.6 1.1
Education 3.2 0.1 0.0
Insurance and financial services 1.3 0.2 0.3
CPI analytical series
All groups CPI, seasonally adjusted 2.0 0.6
Trimmed mean 1.8 0.4 0.4
Weighted median 2.0 0.4 0.4
Source: ABS (2019)
Alcohol and tobacco group increases due to12.5 per cent increase in federal exercise tax and an increase in Average Weekly Ordinary Time Earnings.
In 2016, this group increased due to production of vegetables and increase in restaurant meal. Increase in production of berries such as strawberries and grapes result to increase in food and non alcoholic beverages group in 2017 and in 2018 was due to seasonal increase in lemons, bananas, apples and strawberries.
Increase in housing group was due to increase in dwelling purchase by owner occupiers, rent, electricity, maintenance and repair of the dwelling.
Recreational and culture group increased due to increase in domestic holiday travel and accommodation by 5.5 per cent in 2016, 6.3 per cent in 2017 and 6.2 per cent in 2018.
Increase in insurance and financial services group is due to decrease in deposit and loan facilities because the ATM withdrawal fees for non customers were removed in 2017.
Education group increased in 2017 due to rise in preschool and primary education in 2017 but remain the same in 2016 and in 2018.
Automotive led to increase in transport group CPI.
In 2016, this group CPI reduced due to 4.8 per cent decrease in household textile and 1.5 per cent decrease in furniture. In 2017, it reduced due to 5.7 per cent fall in household textiles since there was competition and discount activity in retail industry and in 2018, it increased by 0.5 percent due to increase in furniture and child care.
Communication group reduced due to decrease in telecommunication equipments and services.
Decrease in pharmaceutical product results to decrease in health group.
Decrease in women garments, footwear and discount and competition in retail industry results to decrease in clothing and footwear group.
According to OECD, IMF, UN and EC stated that Australia inflation will sop to rise and will be stable by 2021. Australia inflation rate is estimated to trend around 2.20 percent in 2020.
Conclusion
Australia CPI continues to raise in most of the CPI basket groups. This shows that majority of Australian households are able to purchase what they want in order to maintain or improve their living standards. CPI when it is crucial comes to Australia economy since it helps to determine the rate of inflation in product price and the living standard of Australian.
Monetary policy helps to regulate the inflation rate CPI, exchange rate. The reserve bank of Australia comes with this policy in order to stabilize the Australian economy.
References
ABS (2011) consumer price index retriev.ed from https://www.abs.gov.au/AUSSTATS/[email protected]/DSSbyCollectionid/1E564CACF4CBEC32CA256ED8007EF06E
Blancard, O. (2000) Macroeconomic (2nd edition) Englewood Cliffs, N.J: Prentice Hall.
Bordo, M. (2008) Monetary Policy, history of The New Palgrave Dictionary of Economics
David, J., Dilhan, P & Thomas, W (2014) inflation and the cost of living-Reserve Bank of Australia retrieved from https://www.rba.gov.au/publications/bulletin/2014/mar/pdf/bu-0314-4.pdf&ved=2ahUKEwiqqMnF
ISBN 0-262-02436-X
Iyiola, R. & Adetunji, A. (2014) THE EFFECT OF MONETARY POLICY ON CONSUMER PRICE INDEX retrieved from https://www.ijiset.com/v1s6/IJISET_V1_I6_22.pdf&ved=2ahUKEwi97oK_p7nlAhWLQkEAHRdYBlsQFjALegQIARAB&usg=AOvVaw3Hs5nghYQFZzowZsewLJ4b&cshid=1572076682058
Mankiw, N. (2002) Macroeconomics (5th edition)
Moody’s analytics (2019) Australia consumer price (CPI) retrieved from https://www.economy.com/australia/consumer-price-index-cpi
RBA (2018) Inflation and its measurements retrieved fromhttps://www.rba.gov.au/education/resources/explainers/inflation-and-its-measurement.html
RBA (2019) about monetary policy retrieved from https://www.rba.gov.au/monetary-policy/about.html