MNI POLICY: Wage Strength Key Risk To RBA Inflation Outlook

Wage growth higher than the Reserve Bank of Australia’s recent assumptions represents a key risk to the Bank’s inflation outlook that could potentially push price rises closer to the top of the 2-3% target band, MNI understands.

The RBA’s recent downgrade to its productivity growth outlook in the August Statement on Monetary Policy was based on an expectation of lower wage growth and the assumption that workers had already moderated their wage expectations. (See MNI RBA WATCH: Bullock Points Toward Further Cuts) This made the productivity revaluation largely neutral for the bank’s inflation outlook, which sees trimmed mean inflation at 2.6% in Q4 before returning to the 2.5% midpoint target by end-2027, alongside an assumed gradual fall in the cash rate from 3.6% to 2.9% by December 2026. Markets have currently priced in a 3.1% cash rate over the same period. 

However, inflation could be higher if wage growth proves resilient or if productivity growth falls further, representing a key short-term risk to the RBA’s projections. (See MNI INTERVIEW: Wages To Limit RBA Easing - Ex Research Chief)

PRODUCTIVITY PEAK

The RBA’s judgement is driven by the view that growth in low-productivity, non-market sector roles – such as health, education, and public administration – has peaked and is expected to continue slowing, particularly amid government reforms to the National Disability Insurance Scheme. As the labour market gradually loosens and moves toward balance, wage pressures are also expected to ease, as recent Wage Price Index results suggest, though the effects may take a few quarters to filter through fully.

Recent national accounts data also showed real wages rising as cost-of-living pressures ease, which will put additional downward pressure on growth in pay. While some unions have secured strong enterprise bargaining agreements over the coming years, the RBA has noted broader adjustments across all wage negotiation channels, including those driven by unions.

The RBA also highlights that, while business and household expectations for wage increases often lag productivity growth, exerting downward pressure on inflation, the risk is two-sided. Slower-than-expected productivity growth could push inflation higher, but a faster productivity pickup or a looser labour market could reduce inflationary pressure.

In practice, the RBA acknowledges that its previous productivity assumptions were too high, which led to overestimates of GDP growth. However, supply capacity, income growth, and demand appear to have adjusted, meaning the Bank’s inflation forecasts have remained largely accurate. Officials see this as evidence that productivity misjudgments have not materially affected the board’s monetary policy decisions to date.