Supply shocks force trade-off between inflation and employment
RBA Assistant Governor Sarah Hunter warned that increasingly frequent supply shocks are forcing central banks to balance inflation control against economic activity. Speaking at the Australian Conference of Economists on July 8, 2026, she outlined how persistent price pressures complicate policy choices.
Navigating the Phillips curve shift
Demand shocks push inflation and economic activity in the same direction, allowing monetary policy to address both simultaneously by adjusting interest rates.
In contrast, adverse supply shocks push inflation up while dampening economic demand, shifting the Phillips curve outward and creating an unavoidable policy trade-off.
Hunter noted that while central banks could traditionally look through short-lived relative price surges like temporary agricultural disruptions, recent global disruptions from geopolitical conflicts and climate events have proven more persistent.
When supply shocks threaten to de-anchor inflation expectations or trigger second-round price increases, policymakers must consider tightening financial conditions even if domestic demand and economic activity are already weakening.
Anchoring expectations in turbulent times
Structural drivers like slowing productivity and demographic shifts alter long-run potential growth without creating sharp cyclical conflicts for monetary policy.
However, recurring cost shocks create persistent risks if public inflation expectations begin to drift upward.
RBA survey data revealed that firms uncertain about long-term inflation targets intend to pass on a larger share of cost increases to consumers.
To better evaluate these complex transmission channels, the central bank is investing in new analytical models, micro-data capabilities, and expanded research initiatives.
A necessary shift in central bank transparency
Hunter effectively dismantles the outdated assumption that central banks can simply look through supply shocks in a volatile global economy.
However, acknowledging policy trade-offs offers little comfort to households already struggling under the dual weight of sticky inflation and elevated interest rates.
The RBA's push for analytical open-mindedness is commendable, but the real test lies in whether these new models can deliver timely decision-making.