The rise in the standard of living is a quirk of timing, not a reflection of a buoyant economy
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Version 0 of 1. This week came the good news that Australian’s standard of living improved over the past year. But as often happens with economics, it was accompanied by the bad news that the main reason our standard of living grew was because of very weak rises in the cost of living – rather than through strong growth in the economy and our incomes. The National Centre for Social and Economic Modelling (Natsem) released its latest household budget report that measures Australians’ standard of living. The standard of living is a combination of the increases in the cost of living – the amount you have to spend on goods and services each year – and your income. If your income rises faster than your costs, then your standard of living increases. As a general rule, our standard of living improves each year. In the 26 years since 1989, only in five calendar years has Australian’s standard of living declined. Two of those were in 1989 and 1990 due to the horror recession. But 2013 did see our standard of living fall again – albeit by only 0.04%: In 2014, however, we were back into positive territory and our standard of living grew by 1.2%. But while this is good news, a look at the figures shows that this improvement didn’t come from a strong economy, but rather a quirk of timing. In 2013 average incomes grew by 2.2%; in 2014 this improved to 2.7%. While that is good, average growth over the past 10 years is 5.3% per year, so it was not a great year. But the big deal was with cost of living. In 2013 the cost of living rose by 2.2%. In 2014 it fell to 1.4%. As a result, despite low-income growth, our standard of living rose: Most of the falls in cost of living occurred in the last six months of 2014. In the year to July 2014, our standard of living actually fell 0.02%. But in the last six months, the price of oil – and thus the price of petrol – fell dramatically. Natsem estimates that in 2014 the drop in transport costs lowered cost of living by $122. By contrast, the annual drop in cost of living due to lower utilities prices brought about by the end of the carbon tax was $75. While lower cost of living is nothing to complain about, the reality is that the major contributors were petrol and electricity. The first had nothing to do with the strength of our economy, and the second came about purely through a governmental decision that will have no further impact on cost of living. The relative weakness of our economy is revealed when you look at the growth of standard of living over the past 18 years. In the seven years leading up to the mining boom from 1996-2003, incomes grew on average by 5.4% each year. During the mining boom this rose to 7.3%. And even though our cost of living grew faster during this boom period, our overall standard of living grew each year by 3.6% on average – well ahead of the 2.2% average experienced prior to the boom years: But in the seven years since the GFC hit, our standard of living has risen by an average of just 1.6% each year. And the biggest reason for the decline is the slower growth of our incomes. Since December 2007 Australian’s incomes have grown by just 2.7% on average. The data also shows who benefited the most during the boom years. In the mid-late 1990s, Australian households across all income levels saw their standard of living increase at about the same rate. Indeed, the standard of living of middle Australia grew faster than the average: During the mining boom years however, it was the richest 20% of Australian households who saw their standard of living rise the most. And in the four years since the GFC – from December 2007 to December 2011 (Natsem’s breakdown by income quintile only go to 2011 thus far) – the richest 20% of households have continued to do the best. One of the reasons that the richest households have continued to do better than others during a period when overall income growth has been flat has to do with the drop in cost of living. Unlike inflation data like the consumer price index, cost of living measures such as those produced by Natsem and the ABS take into account the impact of interest rates on mortgage payments. And during the GFC interest rates were cut so dramatically that during 2009 the average cost of living for those with a mortgage fell 4.2%: As was noted last week in the discussion on negative gearing, high-income households are much more likely to be mortgage holders. But Natsem has also revealed the precise impact of an interest cut on households. It found a 25 basis points cut such as occurred in February improves the standard of living of households by, on average, $238 a year. But higher income households do better off from rate cuts. Their mortgages are likely to be larger and the richest 20% of households improve $536 a year on average from a rate cut. The saving includes other loans, but primarily it comes from reductions in mortgage payments. And given 71% of such households own a mortgage – compared with 54% of all households – it’s clear the wealthier are more likely to see their standard of living improve from a rate cut than lower income households. Natsem also counts the reductions in incomes from lower interest payments – which is why they find households over 65 years old are, on average, worse off by an average of $28 a year from a rate cut. They will be more likely to rely on income from interest payments from term deposits than younger households. The figures, however, don’t take into account the increases in investment from lower rate cuts – which it is hoped would lead to greater employment and hopefully higher income for households, including those who don’t have a mortgage. But the RBA’s Governor Glenn Stevens has, for nearly eight months, been suggesting that cutting interest rates has lost much of its power to increase this economic growth. If that is so, then the Natsem modelling would make you wonder if interest rates are not creating further economic growth, just making life easier for the wealthiest. |