Overview of the Australian Economy

Australia is a small diversified economy having a structure of mixed market economy. Agriculture, industry and services are the three main sectors of the economy. The economy though mostly relies on its industrial and service sector but agriculture also has an important place in the economy. The economy well-recognized the importance of mining industry.  Mining is considered as the main engine of economic growth. In the last few years however mining investment has declined with a shift in growth focus to the service sector. In the GDP composition, the highest contributor is service followed by industry and agriculture (Manalo, Perera and Rees, 2015). An expansion of the economy marked by expansion of and output leads to an increase in employment and price level. Trade is an important part of the economy. Trade shares are affected by exchange rate between Australia and its trading partners especially United State. The direction of monetary policy is determined from the position of cash rate.

One vital aspect of macroeconomic performance of a nation is gross domestic product of nation. It offers a quantitative measures of total produced output of a world. In the estimation of GDP, market prices are used to quantity the marketed goods and services. GDP obtained using market price of current year is called GDP at current price or nominal GDP. Another measure of GDP is the use of base year market price teemed as GDP at constant price real GDP (Frank, 2018). In order to measure how fast tan economy is growing standard approach is to use market percentage change in real GDP from one year to another. Economic growth in terms of its influence on employment generation and income affects unemployment rate and inflation rate (Fontana and Setterfield, 2016). The table below shows the summary statics of real GDP growth, unemployment and inflation for Australia over the dynamic range of 1990 to 2015/16.

Table 1: Summary Statistics of real GDP growth, inflation and unemployment

Summary statistics portraits an overview of the movement of targeted variables in the chosen time range. The Australian economy grew at an average real GDP growth rate of 3.10 percent. The average growth rate is moderate when compared to contemporary developed nations in the world. The average inflation of 2.68 is also at a moderate level. The average unemployment rate in Australia however quite high with the average being 6.73 percent. Worst performance of the economy was recorded in 1991 (Robinson, Tsiaplias and Nguyen, 2015). The negative growth rate of -0.38 in 1991, was associated with a high unemployment rate 9.60 percent and inflation rate of 3.22. The fastest growth was experienced during 1999. The high growth rate of 5.01 percent was associated with a low inflation of 1.47 and a comparatively low unemployment of 6.90.  The decade of 1990s experienced a wide variation in terms of all the indicators like GDP growth, inflation and unemployment.

Macroeconomic Aspects of Australia and Their Effects on Employment, Inflation, and GDP

In order to analyze the relation between real GDP growth rate and that of unemployment rate correlation is computed between the two variables. Correlation offers a measure for degree of association between variable.

Table 2: Correlation matrix of GDP growth and unemployment

The obtained correlation is between growth rate and unemployment is negative. This indicates a high economic growth is associated with a slower growth of unemployment and vice versa. This is rational as higher output means higher production which in turn implies a higher demand for labor and therefore a low rate of unemployment (Hartwell, 2017).

Figure 1: Relation between real GDP growth and unemployment

As seen from the graph at the beginning of 1990s, a wide gap exists between growth of GDP and that of unemployment rate. In 1990, economic growth rate was 3.53 percent. The corresponding unemployment rate was 6.90%. In the phase of recession during 1991, economic growth fell to -0.38%. The economic contraction lead to an increase in unemployment rate to 9.60% (Gregory and Smith, 2016). The phase of slow growth continued for the next few years with prevalence of a high unemployment rate 9-10 percent. The peak growth rate of 5.01 percent in 1991 resulted in a decline in unemployment rate to 6.90 percent. In the twentieth century the economy gradually entered to a stable growth path and diversification of economic activity creates employment opportunities in various area contributing to a lower unemployment (Meredith, 2015.) This helps to fill the gap between unemployment and GDP growth.

Table 2: Correlation matrix of GDP growth and inflation

GDP growth is negatively correlated with inflation rate. The higher GDP growth thus means a lower inflation rate and vice versa (Harvey, 2018.) The relation however is not very effective with value of correlation estimate being very small.

Figure 2:  Real GDP growth and inflation relation

No steady pattern of relation can be obtained from inflation and GDP growth. High GDP growth indicates a higher average income. Higher income increase purchasing power of people and therefor generates a high demand for goods and services (Baxa, Horvath and Vasicekek, 2014).  The demand side pressure is expected to increase price level. A very high inflation rate however hurts living standard by raising cost of consumption basket. Government therefore takes anti-inflationary measures to stabilize the price level. In Australia, price stability is one primary goal of monetary policy of Reserve Bank of Australia. The counter inflationary measures taken by RBA helps to reduce inflation rate in Australia along with a stable growth rate.

Summary Statistics of Real GDP Growth, Inflation, and Unemployment

Business cycle offers an insight for growth fluctuations in an economy. Trend in historical growth rate of Australia shows some high and low points. The high points represent economic expansion while the low points indicate recession. Economic recession began in late 1990s continues to 1991 marking a sharp fall in output. The decade of 1990ended with an economic peak in 1999. The continuous expansion of the economy ended with a peak growth rate of 5.01 percent. The peak rate cannot sustain for a long time and the growth again fell in early twentieth century (Klein, 2017). Slow expansion helped the economy to recover its growth rate and in 2004 growth reached to 4.15 percent. The period of 2009 can be identified as a period of severe recession. Growth rate in this year declined to 1.81 percent. At present, the economy is moving slowly towards a phase of economic expansion.

Figure 3: Growth fluctuation and business cycle

The net contribution of international trade is captured by the terms net export which is total export less of total import. Long since Australia has been participating in international trade. The trade share in GDP continuously increases since 1980. The share after reaching to a very high level slightly declined after 2008. This is mainly due to the global financial crisis occurred during that time.  The advanced economies recorded a rapid decline in their export demand. The main trade partners of Australia are China, Japan, South Kore, United States, Singapore, New Zealand and Germany (Itskhoki and Mukhin, 2017). The export basket of Australia includes mainly minerals and different services like travel, professional and financial service. The import basket includes refined petroleum, medical equipment, Automobile components and others.

An interdependence exists between Australia and USA. The effective price of a traded good in the international market is determined from the ratio of exchange between home and foreign country. The higher exchange ratio means a higher relative price and therefore a lower net export. Relatively small exchange ratio means a smaller price of exported goods and hence a higher trade balance (Cole and Nightingale, 2016). United States of America being on vital trade partner of the Australia, Australian dollar valued in terms of US dollar has significant influence on net export.

Table 4: Summary Statistics of net export and real exchange rate

Table 5: Correlation matrix of net export and real exchange rate

Figure 4: net export and exchange rate relation

Correlation Matrix of GDP Growth and Unemployment, and Real GDP Growth and Inflation

The average value of Australian dollar relative to US dollar is 1.35.  This indicates on an average 1.35 Australian dollar required to be exchanged for one US dollar. The correlation estimate suggests a positive relation between AUD/ USD exchange rate and net export. The graph above shows that exchange rate and net export follow same direction of movement. This means an upswing in the exchange rate associated with an increases in net export and a downswing in the exchange rate is associated with a decrease in net export (Baumol and Blinder, 2016). As a result, the maximum trade surplus of 66705816333 corresponds to the largest exchange ratio of 1.93 while the maximum trade deficit of 51198100517 is associated with the minimum exchange ratio of 0.97.

Central bank of a nation charges a certain interest on borrowed capital by commercial banks.  This is the bank rate charged on overnight borrowed fund. This offers central banks a control over the lending ability of commercial banks. The bank rate in Australia is known as cash rate and is determined by the Reserve Bank of Australia (Argy and Nevile, 2016). This in USA is fund rate and is determined by the Federal Reserve. Growing trade and investment relation between Australia and USA has made the nation interconnected in several aspects. The fund rate determined by Fed has an effect of on determination of cash rate in Australia. The tight monetary policy by Fed in form of increased cash rate signal a relatively strong value of US dollar. The strong US dollar means a relatively week AUD which is beneficial for Australian trade. An expansionary monetary policy by Fed on the other hands is followed by a monetary expansion of RBA as well (Georgiadis, 2016).

Table 6: Summary Statistics of fund rate and cash rate

Table 7: Correlation matrix of cash rate and fund rate

Figure 5: Relation between fund rate and cash rate

The estimate of correlation indicates a strong positive reaction between fund rate and cash rate. This can be also seen from above graph. Every downward revision of fund rate is followed by a corresponding downward revision of the cash rate. The cash rate however lowered by a proportionately less magnitude than cash rate did.  The gap between fund rate and cash rate widens particularly aftermath of global financial crisis (Manalo, Perera and Rees, 2015). During fund rate was set at a historically low level and was even below 1%. The cash rate though reduced but was around 2-3 percent.

Business Cycle and Growth Fluctuations in Australia

The recent growth rate of Australia is less than level that is expected to be achieved. In fact, in the last five years, the Australian economy is growing at a relatively slow rate. A slow growth of consumption, slowdown of construction and mining, spillover effect from China’s slow growth and low inflation expectation are some of the factors contributing to Australia’s poor growth performance. There is still no reason to expect a recession in future years as several other sectors of the economy shows sign of economic recovery (Rees, Smith and Hall, 2016). Non-mining industrial and service sectors are expanding at a rapid pace in response to growing business investment. Public investment on inventories and infrastructure moves the economy toward economic prosperity. Because of a declining export demand for coal and iron ore export composition has changed in favor of other resources line natural gas. The economic recoveries of Australia will help the economy to make a transition towards a path of economic expansion.

Conclusion 

Critical analysis of Australian economic performance finds that growth rate fluctuated highly in the decade 1990s. With passes of time, a stable growth path has achieved for the economy. Economic growth has a positive effect on employment. Under the purview of monetary policy, the economy has achieved a stable price level. Similar to most other economies, business cycle phases evidenced in Australia from high and low points of economic growth. The movement of exchange rate and net export suggests a positive association between exchange rate net export. Increase in exchange value reflects currency depreciation and a low export demand. Fed fund rate has caused a net drive to Australian economy. A monetary expansion by Federal Reserves followed by the same policy taken on part of RBA.

References 

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