As the Australian economy continues its recovery against the backdrop of an emerging post-covid global economy, we need to review the key trends, features and policies that have and will continue to shape our economy into the next decade.
Regarding our economic issues, Australia’s relatively successful management of COVID-19 cases has allowed us to reopen the economy quickly, placing us as a frontrunner in economic growth amongst OECD countries, many of whom are experiencing slow economic growth. However, the immense government expenditure that serves as the foundation to this growth forces us to consider how long this growth will last. Moreover, in terms of our Balance on Goods and Services (BOGS), the meteoric rise of commodity prices looks to be positioning us not only for a long term Current Account surplus, but also a two-speed economy.
1. Covid: Australian economy climbs back to pre-pandemic size
As we have discussed, Australia has recovered extremely quickly from the lows reached during COVID-19 where economic growth contracted by 7% in Q4 2020 (April-June) and 0.3% deflation occurred (June 2019-June 2020). The BBC reports, this was the worst period of economic growth recorded in Australia since records began in 1959. The current quarterly growth rate, reported by the BBC to be around 1.8% has been driven by two essential features.
To read more on this topic, check out: https://www.bbc.com/news/business-53994318
Firstly, the extremely low 0.1% Cash Rate has to a degree, helped boost consumption coming out of the worst of the pandemic period in 2020. This is accompanied by a fall in household savings from the peak at 20% of income last year, as Australians begin to have more confidence in the economy’s future performance.
Secondly, the fact that most of Australia (excluding Victoria) has remained largely lockdown free meant that consumption, especially with retail, dining and tourism was not as constricted as it was in nations where lockdowns were longer and restrictive on aggregate demand.
Such a difference is evident in the 8% gulf between Australian and British economic growth, where Britain has had three nationwide lockdowns compared to one in Australia.
However, the performance of the economy (excluding the mineral commodities sector) is incredibly reliant on Australia containing COVID-19 cases. The low vaccination rate and potential lockdowns threaten to return the economy to the low consumption, high savings and reduced aggregate demand state seen in May 2020.
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2. ‘Extraordinary’ iron ore price has Australian economy rivalling Russia
Once again, we are reminded that the Australian economy and Current Account are incredibly open to commodity price volatility and fluctuations in global demand for our exports.
Firstly, we must recognise that iron ore, coal, oil and many other commodities exports have their price determined by global demand and supply. Therefore, no matter the efficiency or strength of the Australian economy, we remain reliant on the global prices to dictate much of our aggregate demand.
As News.com reports: “Australia can thank the booming price of its biggest export iron ore, which currently brings in $136 billion a year, for thrusting the economy ahead of Brazil and bringing it close to Russia in a little over 12 months since the covid-19 pandemic began.”
Whilst such high income contributes heavily to the economy’s short term growth statistics, it also has some very serious negatives for the sustainability of future growth.
Higher prices and income in the commodities sector will likely drive a reallocation of resources from other struggling industries towards that sector. This may potentially create a two-speed economy where the mining sector is experiencing a small boom in growth and income, when other parts of the economy are struggling.
A two-speed economy scenario will cause the Australian economy as a whole to be more vulnerable to the impacts of a possible future commodities price collapse, where the sectors outside of the mining sector are unable to support aggregate demand after the commodities boom passes because they have lacked investment for too long. This risks plunging Australian industries into a long-term state of low growth and potentially stagnation. This is especially problematic when considering that the mining industry accounts for 10% of Australian GDP.
Additionally, high commodity prices drive an appreciation of the AUD, something which will cause demand for our exports and foreign investment into Australia to fall. Such conditions will curtail our recovery as money is diverted away from our economy and to foreign economies.
Overall, we must make sure to look at the impacts of our commodity reliance carefully and decide on the best way to satisfy our economic objectives of sustainable growth, stable inflation and low unemployment.
This series of weekly articles aims to compile the important economic news of the week into bite-sized summaries with HSC-specific takeaways.You can expect a new article every Monday!