Raising interest rates is not something the Reserve Bank does lightly.

But what worries the Reserve Bank – and why it raised interest rates for a record? seventh consecutive month at Melbourne Cup Tuesday – is that inflation seems to be completely disengaged from the bank’s target.

The target band of 2-3% was introduced in the early 1990s, when there was still inflation there. With one brief exception during the introduction of the Goods and Services Tax in the early 2000s, inflation has never been far off the mark — until now.

The jump in inflation from 6.1% to 7.3%, revealed last Wednesdaymade it clear that, even after six consecutive rate hikes, inflation was further from the Bank’s target than ever before.

Inflation breaks loose from the target band

When the Reserve Bank started to walk in the so-called cash rate during the May election campaign, the National Australia Bank’s standard variable mortgage rate was: 3.45%. It is now 5.95% and is about to go to 6.2%.

For a borrower with a $500,000 mortgage, the increase in payments is $800 per month. For a borrower with a 2% fixed-rate loan that is about to expire, the burden will be even greater.

So the Reserve Bank wants to make sure that the inflation jump to 7.3% is real.

How does the cost of buying a home skew inflation?

The first thing to say is that 7.3% is almost the real thing, but not quite.

The Bureau of Statistics collects information on millions of prices per week, sometimes by entering stores in eight cities and noting what’s on price tags, sometimes through direct feeds from supermarkets, gas stations and electricity suppliers, and sometimes by “scrapeprices listed on the web for home deliveries.

The agency categorizes the things it praises as essential or non-essential (its words are “non-discretionary” and “discretionary”).

It has been found that the prices of essential items (which we generally have to buy) have increased by Lake than 7.3% in the year to September – due to an extraordinary 8.4% – while the prices of things we generally don’t need have increased by 5.5%.

For obvious reasons, food is on the agency’s list of essential or “non-discretionary” items. Food prices continue to be driven up by flooding and labor shortages.

But what many people don’t realize is that under that list of supposedly “non-discertifying” items is also a type of purchase that people don’t often make – and some Australians never will.

And that one item – “purchase of new home by owner-occupiers” – makes up more of the consumer price index than anything else.

Buying a house is so expensive compared to the other things we buy (like bread and milk) that it makes up almost 9% of the consumer price index.

Worse, being classified as essentialit makes up nearly 15% of the “essential” index, although for most of us in any given year, buying a home is optional.

In most years, this anomaly doesn’t matter much. The price of a new house (what is priced is just the construction of the house, not the land) rises pretty much in line with everything else.

But building materials shortages, COVID-induced labor shortages and an explosion in demand for buildings fueled by the government House builder subsidies have pushed up the price of new homes by as much as 20.7% in the past year. That’s enough to add an awful lot to the reported inflation rate.

The true cost of living is likely to have increased by 6%

A rough calculation suggests that Australian inflation would be 6% instead of 7.3%, if the price of new homes didn’t have such an excessive impact.

We will know more by mid-Wednesday. The agency actually produces separate cost of living indices a week after the consumer price index that replaces mortgage payments for the cost of building a home.

Recently, these indices point to increases of one to two percentage points below the official inflation rate.

Accurately measure rent increases

Another peculiarity is that the rent increases recorded in the consumer price index are so far below the level we keep hearing about.

The agency says that in the year to September, average rents in the capital only rose 2.8%compared to the figures of 10%and in some suburbs, 20%, quoted by real estate analysts.

In part, this is because the agency only reports the capital’s rent. But more importantly, it does its job better than real estate analysts.

It collects data not only on the rents being advertised (these are rising sharply), but also on the hundreds of thousands of rents paid by persistent tenants, which are either not rising at all or not rising that much.

The agency compares the two by describing a bathtub of water.

The water in the tub represents all the rents paid by households, while the water that comes out of the tap into the tub represents new leases. The consumer price index measures the overall temperature of the bathtub, while an advertised rental range measures the temperature of the water flowing into the bathtub.

Worse news ahead

Perhaps surprisingly, the agency finds that the average retail price of electricity rose by just 3.2% in the year to September, and the price of gas by only 16.6%, much less than the 56% and 44% mentioned in last week’s federal budget.

But the budget figures were predictions of what will happen in the next two years unless the government provides assistance. The agency told us what happened.

That is why the Reserve Bank is concerned. While gas and electricity prices will eventually fall, inflation is likely to rise even higher before falling – bank tells about 8%.

The way back to the 2-3% target band is anything but clear. For home buyers, this means that there is no relief in sight yet.

• Peter Martinvisiting colleague, Crawford School of Public Policy, Australian National University

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