Australia's First-Quarter Wages Are Surprisingly Subdued

A key indicator of wages in Australia rose by much less than expected last quarter, easing fears that a drum-tight labor market would stoke inflation and lead to higher interest rates.

The Australian dollar fell and bonds rallied after the government's wage price index (WPI) rose just 1.0% in the first quarter, when analysts had been braced for a record increase of 1.3%.

Growth in total hourly rates of pay ticked up to 4.1% in the year to March, from 4.0% in the fourth quarter, but remained well short of the 4.5% speed barrier that analysts consider a threat to inflation. "The figures were amazingly subdued," said Brian Redican, a senior economist at Macquarie Bank.

"For inflation and interest rates, wages are the smoking gun that isn't smoking. It means the RBA (Reserve Bank of Australia) doesn't have to be aggressive in reining in the economy."

Interest rate futures bounced after the wages data, as the market priced in less risk of an increase in the 6.25% cash rate this year.

Just last month the RBA trimmed its forecast for underlying inflation for 2007 to 2.5%, right in the middle of its 2% to 3% target range. The market took that move to mean there was little chance of an increase in the 6.25% cash rate in the next six months or so.

Still, the central bank was at pains to warn that inflation would likely rise in 2008 given the strength of demand and employment in an economy already stretched after 16 years of ceaseless expansion.

Best Of Both Worlds

Figures out last week showed the jobless rate fell to a 32-year low of 4.4% in April, stirring concerns that employers would have to bid wages ever higher to attract workers. Yet Wednesday's figures showed that while annual wage growth in booming sectors like mining were running above 6.0%, overall growth in the private sector was just 3.9%.

"That mix of a tight labor market and low wages growth remains intact which, from the central bank's point of view, is the ideal result because you can allow the economy to keep generating jobs and push down unemployment and not have to worry too much about the inflation implications," said Michael Blythe, chief economist at Commonwealth Bank.

Analysts suspect the restrained performance owes much to an increasing supply of labor. The government has been allowing in more skilled immigrants -- over 100,000 places are planned for 2007/08 -- and loosening employment regulations.

Treasurer Peter Costello also argued that tax cuts promised in last week's 2007/08 Budget would encourage part-time employees to work longer and entice more people to look for a job, thus boosting the supply of labor and helping restrain wages growth.

The A$31.5 billion in tax cuts certainly had a galvanizing effect on consumer confidence with a survey out on Wednesday showing a jump to record highs in May. The Westpac-Melbourne Institute Consumer Sentiment Index climbed 7.5% to 123.9, the highest reading since the survey began in 1975.

"This is an extraordinary result," said Westpac chief economist Bill Evans. "Consumers have certainly responded to the Treasurer's generosity, but such strong data must be challenging the RBA's conviction that low current inflation means that future inflation pressures will be contained."