The 'sticky' issue making the cost of living crisis worse

The cash rate currently sits at 4.10 per cent on the back of 12 hikes in 14 months, but the consumer price index (CPI) actually rose slightly in May, up to 6.8 per cent from 6.3 the month before.

What is sticky inflation?

Put simply, sticky inflation is inflation that takes longer than expected to come down.

It happens when the CPI remains high despite macroeconomic policies to lower them – for example, interest rate rises.

What causes sticky inflation?

There are several factors that can contribute to persistently high inflation, but RMIT associate professor of economics Bilgehan Karabay says company profits are key to the equation.

“When there is a cost rise (for companies), it is relatively easy to reflect this rise on the prices, but they’re not so willing to actually lower prices once these costs are lower,” he told 9news.com.au.

“It takes some time… let’s say you increase your prices and you see you’re still selling stuff, you don’t want to lower prices once your costs are lower.

“It’s only after you realise your sales are getting lower because of these high prices that you may want to reduce your price, but it takes time because you don’t do it right away.

“That’s why prices are generally sticky.”

The International Monetary Fund (IMF) has this week pointed to the impact of profits on inflation, saying they are responsible for 50 per cent of the increase in European inflation over the past two years.

“If inflation is to fall quickly, firms must allow their profit margins – which have shot up during the past two years – to decline and absorb some of the expected rise in labour costs,” IMF first deputy managing director Gita Gopinath said on Monday.

“But firms may resist this.”

“Some firms were indexing their prices, either implicitly or directly, to past inflation,” the bank said last Tuesday.

“These developments created an increased risk that high inflation would be persistent.”

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Is inflation ‘stickier’ in Australia than the rest of the world?

“It is a global phenomenon, although the degree of it changes from one country to another,” he said.

“In Australia, yes, if you look at the numbers, it looks stickier.

“But the same thing can be said for the Euro area or for the United States.

“What is important for the fight against inflation is core inflation, which is inflation excluding energy and food prices.

“As long as that eases, the rest of it can also ease with it without getting into recession. And this is the challenge that countries are fighting right now.”

When will inflation come down?

It’s a question everyone wants to know the answer to – after all, lower inflation means an end to increasing interest rates – but unfortunately we don’t have a definitive answer.

The RBA’s latest monetary policy statement, released in May, repeated that inflation has peaked, but that it won’t come down to 3 per cent – the upper limit of its target – until mid-2025.

Karaby said there is ample uncertainty about the next few years.

“It takes 12 to 18 months (for interest rate rises) to take effect, because it works with a lag,” Karaby said, adding that lag makes the RBA’s cash rate decisions particularly tricky.

“There is this trade-off between should you wait more, but then later on, you have to increase even more, or should you risk recession by increasing too much.

“This is not an easy task to balance. It’s not easy to see beforehand – you need to make a guesstimate. And data helps with your guess but it cannot tell you exactly what will happen.”