If inflation is rising because demand is outstripping supply capacity, it’s natural to think: ‘it would be a whole lot nicer to solve this with an increase in supply capacity rather than a slowing of demand’. This has been the favourite line of every government faced with inflation since World War II – with the possible exception of Fraser’s – and it was new Federal Treasurer Wayne Swan’s line yesterday too:
The combination of strengthening wage growth and continuing weak productivity growth implies nominal unit labour costs are increasing. This provides further evidence of capacity constraints such as skilled labour shortages and infrastructure bottlenecks. Skilled labour shortages and infrastructure bottlenecks do require urgent attention following a sustained period of economic growth… Now this is why the Rudd Government is focused fairly and squarely on expanding the productive capacity of the economy. That is our objective. That is our number one priority and all of the material in these figures show why that is urgent.
Trouble is that tomorrow’s supply capacity grows through today’s investment, which is also part of today’s demand, which is what’s outstripping today’s supply capacity. Swan’s invocation of education to fix the “skills deficit” and public investment to fix the “infrastructure deficit” has to be set alongside his comments in the same press conference that public spending has to be trimmed to the bone.
That means running strong surpluses and as you know we’ve got surpluses of one percent or more across the forward estimates. But we have indicated, because of the inflationary pressures, that we need to add to those surpluses by making further savings and that is why we’ve talked about the razor gang process. We understand how important strict fiscal discipline is in the inflationary environment that we are in at the moment.
These two lines are contradictory. How does the government cut back spending growth while investing in skills and infrastructure? One of these lines is an empty incantation. Guess which one.