Reserve Bank Governor Michele Bullock says government spending is driving up inflation by adding to demand

Australia’s chief central banker Michele Bullock has told a parliamentary hearing government spending is driving up inflation in the wake of the first rate hike in more than two years and warned of another increase if demand didn’t slow - putting her on a collision course with her Labor bosses.

Treasurer Jim Chalmers has been arguing that private sector activity is fuelling inflation and not public sector spending, with both headline and underlying inflation now well above the Reserve Bank of Australia’s 2-3 per cent target.

But the RBA Governor on Friday contradicted him, agreeing with a suggestion from Liberal MP Simon Kennedy that high government spending had pushed up inflation by increasing demand for goods and services, and warned of another rate rise if this didn’t slow.

“Yes, it does, because as you say there’s some public demand and then there’s transfers and taxes which also flow into that,” Ms Bullock told the House of Representatives economics committee in Canberra. “It’s all part of aggregate demand.

“Aggregate demand, we think, is currently in excess of the ability of the economy to supply those goods and services which are being demanded. Total demand is too high and that’s what’s giving inflationary pressures.

“If we need to put up interest rates to slow the growth in demand, in aggregate demand, then that’s what we will do.”

Ms Bullock made the acknowledgement on Friday, after refusing on Tuesday “to comment on fiscal policy” when asked by journalists in Sydney about the link between government spending and inflation.

Federal Government spending is forecast by Treasury to hit 26.9 per cent of gross domestic product in 2025-26, which outside of COVID would the highest since 1986.

“Mathematically, you’re right. Public demand expenditure and private sector, all of that adds to demand,” she said.

“That’s logical. It’s mathematical. That’s what happens.”

Ms Bullock also confirmed that government expenditure often showed up in private demand, with some private activity reliant on government contracts or subsidies like discontinued electricity rebates.

“What it often does is it transfers money to people, and it gives them money to spend,” she said.

“I don’t have a view on the Treasurer’s words.”

RBA assistant governor Sarah Hunter said Federal Government spending was a factor, but said the Commonwealth alone wasn’t to blame.

“It’s a component of aggregate demand,” she said. “It doesn’t just matter what the Federal Government does. It does matter what the states do, what local authorities do even.”

The appearance of RBA officials before MPs is occurring three days after the Reserve Bank of Australia increased the cash rate by 25 basis points to 3.85 per cent, undoing the August cut and marking the first tightening since November 2023.

“I recognise the challenges a cash rate increase brings for Australians with mortgages but it’s the right thing for the economy as a whole because we need to ensure inflation is low and stable so that households and businesses can plan, invest and create jobs,” Ms Bullock said.

“I’ve said it before but high inflation hurts all Australians whether you’re paying a mortgage, renting, running a business or just trying to make ends meet and it’s especially tough on people on lower incomes and those in more vulnerable situations.”

The RBA is expecting headline inflation to climb even higher to 4.2 per cent by June, up from an annual pace of 3.8 per cent in 2025, and remain above its 2-3 per cent target until at least mid-2027.

Headline and underlying, trimmed mean inflation were not forecast to fall back to the mid-point of the target band until late 2028.

The futures market and National Australia Bank are predicting a follow-up rate hike in May that would take the cash rate up to 4.1 per cent and reverse the effects of a May 2025 rate cut.