Financial Cycle And Curve Macroeconomics - MyAssignmenthelp.com

Question: Discuss about the Financial Cycle And Curve Macroeconomics. Answer: Introduction The Australian economy is considered one of the most developed economies in the contemporary global framework and is characterized by the presence of a robust mixed economic structure. The most prominent trait of the economy is stability and consistency in the growth trends of its economic indicators like GDP, employment and price levels. The country has a considerably big service sector and a booming industrial and commercial sector, which clubbed with the productive international relationships of the country; helps immensely in keeping the growth trends stable (Dyster and Meredith, 2012). The concerned report, tries to analyze the growth trends of the overall economy of the country, between 1990 and 2015, taking into account the primary economic indicator of growth, the GDP and the determinants of the same, including inflation, unemployment rate, net exports, interest rates and the exchange rate (Ravenhill, 2017). By studying the trends in these indicators and their inter-relationships, it tries to interpret the policy implications and the outlook of the economy of Australia, in the light of the existing economic theories and conceptual framework. Economy of Australia: Macroeconomic Evaluation The most widely used economic indicator of growth in any country is the growth in the Gross Domestic Product of the country, which is the sum of the money values of the final commodities and services produced in the geographical boundaries of the country. The same, in turn is affected by the dynamics of several economic indicators, the effects being both direct as well as indirect. Of these, the crucial ones are unemployment rate, inflation rate, exchange rate, net exports and the interest rate and cash rate prevailing in the economy (Mankiw, 2014). The report, in order to evaluate the macroeconomic performance of the concerned country, considers the Real GDP statistics of the country in 1990-2015, the same being an inflation-adjusted measure of GDP. In the calculation of the same, a stable base year is taken. In Australia, the Real GDP has maintained a more or less stable average of 3.1%, in spite of presence of occasional fluctuations from time to time (Borio, 2014). The following section of the assignment shows the relationship between the Real GDP and the above-mentioned five economic indicators in the country. The correlation among these indicators can be seen from the following table: Table 1: Correlation between the Real GDP and other economic indicators in Australia Correlation between Real GDP and other economic indicators Real GDP growth rate Cash Rate Unemployment rate Rate of inflation Exchange rate Net exports Real GDP growth rate 1 Cash Rate -0.08 1 Unemployment rate -0.13 0.28 1 Rate of inflation -0.03 0.64 -0.23 1 Exchange rate 0.20 0.04 0.26 0.08 1 Net exports 0.23 0.26 0.55 -0.02 0.85 1 (Source: Based on Data from World Bank: Data.worldbank.org, 2018) Real GDP and Unemployment Rate The economic welfare of a country and its residents in particular is the employment scenario and its dynamics in the country over the years. This is because much of the welfare of people and prosperity of the economy depends on the income in hand and purchasing powers of the residents. In this context, the rate of unemployment in the concerned country has been moderately stable over the concerned period, with the average rate hovering around 6.8%. However, there has been occasional fluctuations in the same, the highest being 11% (1994) and the lowest 4.4% (2008). In general, with an increase in GDP, productivity and job creations in a country are expected to increase, which indicates towards the negative relationship between the GDP and the rate of unemployment in any country (Mavromaras, Sloane and Wei, 2015). In Australia, this trend is observed in reality with the correlation being -0.13, with the trends of the same being as follows: Figure 1: Trends in Rate of Real GDP and Unemployment (1990-2015) (Source: Data.worldbank.org, 2018) As is evident from the above figure, there exists a more or less negative relationship between the growth rate of Real GDP and rate of unemployment. Over the period, the GDP growth rate has been seen to maintain a stable positive trend, with occasional fluctuations and the rate of unemployment is seen to decline substantially. This indicates towards the impressive increase in the employments in the country, the same rising to as high as 12.5 million in the contemporary period. This can be related to the more than expected increase in the rate of labor force participation in the country. Real GDP growth rate and inflation rate The overall level of price existing in an economy, at a point of time, is another important determinant of the economic welfare and situations of the residents as well as the country. This is primarily because much of the demand and supply dynamics in the economy are dependent on the price levels existing in the economy, the dynamics of which is measured by the rate of inflation in the country. Very high and very low inflation rates can both adversely affect the economy of the country and its residents. In general, high productivity increases the income in hand of the residents of the country, thereby increasing their demand and driving up the average price levels of the country, thereby indicating towards a positive linkage between the inflation and the Real GDP growth rate (Agnor and Montiel, 2015). The inherent stable economy of Australia has kept its inflation rate at a moderately low level of 2.7%. The rate, however, had considerable fluctuations, especially between 1990 and 2000, much of which can be attributed to the successive periods of high prices and aggregate demand and acute recessions within this period. The relation between the concerned variables, is however seen to be negative for the concerned country, with the correlation being -0.03. Figure 2: Rate of growth of Real GDP and Inflation (1990-2015) (Source: Data.worldbank.org, 2018) The above figure shows that there has been considerable fluctuations in both the indicators in the govern period of time, however, the overall trend of relationship between the two indicators in found to be negative, which is opposite to the assertions of the existing economic theory. The negative relation between the growth rate of the Real GDP of Australia and the inflation rate of the same can to some extent be explained by the presence of high debt burden in the country in the period taken into consideration (Kumar, Webber and Perry, 2012). This is because, the presence of a high debt with a high rate of inflation have negative implications on the GDP statistics of the country, which can be seen from the above figure. Real GDP and the cash rate Cash rate in a country, is usually the rate of interest, which is charged by the Central Monetary Authority of the country from the commercial banks on the loans taken by the latter from the former. In Australia, the same has maintained an average of 5.63%. However, the rate was excessively high in 1990 (15.23%) due to the implementation of a contractionary monetary framework by the government of the country. In the recent periods, the rate has been significantly lowered by the RBA to 2.13% (2015). A decreased cash rate is usually accompanied by an increase in the demand for money, which in turn indicates towards increase in the investment as well as economic growth in the country. Often the monetary authorities of a country deliberately keeps the cash rates lower in order to increase the liquidity of money in the country, thereby stimulating economic growth. Therefore, there is supposed to be a negative relationship between the concerned two variables, which can be seen from the fol lowing figure: Figure 3: Real GDP growth rate and cash rate (1990-2015) (Source: Rba.gov.au, 2018) From the above figure, the presence of an inverse relationship between the Real GDP growth rate and the cash rate of the country is evident, which is also supported by the correlation estimate between the two variables, which is observed to be -0.08. Over the last few years, the cash rate in the country has significantly decreased, the same being deliberately done by the RBA to facilitate investments in the economy. This is seen to be accompanied by the stable increase in the growth rate of the Real GDP, which is primarily attributed to the increase in the residential and asset investments as well as an increase in the overall demand in the country. This thereby justifies the decision of the RBA to keep the cash rate at a lower level than normal (kovrnek, Podlubny and Petr, 2012). Growth rate of Real GDP and exchange rate Much of the economic growth of a country is dependent on the trade and commercial sector of the country, which in turn depends on the exchange rate dynamics of the country. The exchange rate is the valuation of the domestic currency of a country measured in terms of a foreign currency, usually the US dollar. In general, with the increase in the exchange rate of the country, there occurs a devaluation of the domestic currency, which in turn facilitates exports, thereby contributing positively to the economic growth of the country. Thus, theoretically, the relationship between the growth rate of the Real GDP and the exchange rate of a country is expected to be positive (Diebold, 2012). The empirical evidences present in the economic trends of Australia support this, as within the period of concern, the correlation between the same is seen to be 0.20. Figure 4: Real GDP growth rate and exchange rate (1990-2015) (Source: Rba.gov.au, 2018) The exchange rate of the country has moderately remained between USD 1 and USD 2. This is seen to be clubbed with a stable growth rate in the Real GDP in Australia in spite of its fluctuations in the same. The exchange rate has however favored the country to expand its export sector considerably, as with time the economy has set up productive and bilateral trade relations with almost all the major economies of the world (Manalo, Perera and Rees, 2015). Real GDP growth rate and net exports The surplus value of the goods and services, which a country exports to other countries over the value of the goods and services imported by the same, gives the estimation of the net exports of country. If the net export is positive, then that indicates towards the presence of a higher export share in the country than that of the import share, which in turn has positive implications on the economic growth of the country, measured by the GDP. Thus, there is supposed to be a positive relation between the net exports in the country and its GDP, which is seen to be holding in case of the Australian economy in the period considered. The correlation between the same is found to be 0.23, which is fairly positive. Figure 5: Growth rate of Real GDP and Net Export dynamics (1990-2015) (Source: Data.worldbank.org, 2018) As can be clearly observed from the above figure, over the years, the net exports in the country has remained marginally positive, barring the period after 2009, where several negative troughs can be observed. This deficit in the net export balance has mainly arisen due to the increase in the import demand for various consumption goods as well as raw materials for the purpose of production. Apart from that the positive relation between the two concerned indicator is valid as can be seen from the stability growing real GDP of the country over the years (Makin and Narayan, 2013). Inflation and Unemployment The two vital economic indicators in any country, the inflation and the rate of unemployment are in general inversely connected to each other, which is asserted by the Phillips Curve theory. The theory suggests that when the economy of a country progresses, the production in the country increases, which in turn leads to increase in the job scopes and employment, thereby reducing the unemployment rate. However, this is followed by an increase in the aggregate demand in the economy, which raises the average price level, thereby increasing the inflationary pressure in the country. Figure 6: Relation between inflation and unemployment: Phillips Curve (Source: Daly and Hobijn, 2014) The above assertions of the Phillips Curve theory is found to be highly relevant for the economy of Australia, as the correlation between the two variables in the considered period is found to be -0.23. This can be seen as follows: The dynamics of the two variables for the country is seen to be highly inverse, for most of the times in the concerned period. However, there have been some exceptions in the dynamics, especially in 2002-2005, where both the indicators are seen to be falling. This can be related to the strategies taken by the RBA during that period, which had bilateral objectives of maintaining moderate rates of both the indicators for maximizing the welfare of the country as a whole (Daly and Hobijn, 2014). Contractionary Monetary Policy Framework The monetary policy framework existing in the economy has seen considerable fluctuations in the time period concerned. In general, the RBA has taken tight monetary policies when the overall inflation rate has been high in the economy, like in the 1980s. During this time the tight monetary policy taken increased the cash rate to as high as 15%. This by decreasing the liquidity took the economy on the path of acute stagnation and recession. Tight monetary policy was again taken in 2004, to combat the increase in the overall demand, which was increasing the price levels in the economy. Future Outlook of the economy The economy of Australia shows mixed trends in its future growth trends. While on the basis of the present trends it can be expected that the GDP growth rate of the country will be varying between 2.5% and 3.5% in the coming few years, however, in the coming period the wages are expected to grow at a moderately low level (Oecd.org, 2018). This in turn will also keep the rate of savings low. This is also expected to be clubbed with a low cash rate, which the RBA is expected to be keeping low deliberately (Sheehan and Gregory, 2013). This may in turn help in increasing the rate of investment in spite of an expected low rate of savings. The low wage rate is supposed to keep the inflationary pressure low. The risk for recession in the future is also expected to be decreasing. Conclusion The economy of Australia has over the years, shown stable and consistent economic growth as can be seen from almost all the vital economic indicators present in the country. There has been a more or less stable growth rate of the Real GDP of the country, which has however been affected by several economic indicators, both positively as well as negatively. However, in spite of these variations and fluctuations the economy of the country is expected to be growing at a stable pace in the coming years. References Agnor, P.R. and Montiel, P.J., 2015.Development macroeconomics. Princeton university press. Borio, C., 2014. The financial cycle and macroeconomics: What have we learnt?.Journal of Banking Finance,45, pp.182-198. Daly, M.C. and Hobijn, B., 2014. Downward nominal wage rigidities bend the Phillips curve.Journal of Money, Credit and Banking,46(S2), pp.51-93. Data.worldbank.org (2018).Australia | Data. [online] Data.worldbank.org. Available at: https://data.worldbank.org/country/australia [Accessed 23 Jan. 2018]. Data.worldbank.org (2018).Inflation, consumer prices (annual %) | Data. [online] Data.worldbank.org. Available at: https://data.worldbank.org/indicator/FP.CPI.TOTL.ZG?locations=AU [Accessed 23 Jan. 2018]. Data.worldbank.org (2018).Unemployment, total (% of total labor force) (modeled ILO estimate) | Data. [online] Data.worldbank.org. Available at: https://data.worldbank.org/indicator/SL.UEM.TOTL.ZS?locations=AU [Accessed 23 Jan. 2018]. Diebold, F.X., 2012.Empirical modeling of exchange rate dynamics(Vol. 303). Springer Science Business Media. Dyster, B. and Meredith, D., 2012.Australia in the global economy: Continuity and change. Cambridge University Press. Kumar, S., Webber, D.J. and Perry, G., 2012. Real wages, inflation and labour productivity in Australia.Applied Economics,44(23), pp.2945-2954. Makin, A.J. and Narayan, P.K., 2013. Re-examining the twin deficits hypothesis: evidence from Australia.Empirical Economics, pp.1-13. Manalo, J., Perera, D. and Rees, D.M., 2015. Exchange rate movements and the Australian economy.Economic Modelling,47, pp.53-62. Mankiw, N.G., 2014.Principles of macroeconomics. Cengage Learning. Mavromaras, K., Sloane, P. and Wei, Z., 2015. The scarring effects of unemployment, low pay and skills under-utilization in Australia compared.Applied economics,47(23), pp.2413-2429. Oecd.org (2018).Australia - Economic forecast summary (November 2017) - OECD. [online] Oecd.org. Available at: https://www.oecd.org/eco/outlook/australia-economic-forecast-summary.htm [Accessed 23 Jan. 2018]. Ravenhill, J. ed., 2017.Global political economy. Oxford University Press. Rba.gov.au (2018).Cash Rate | RBA. [online] Reserve Bank of Australia. Available at: https://www.rba.gov.au/statistics/cash-rate/ [Accessed 23 Jan. 2018]. Rba.gov.au (2018).Historical Data | RBA. [online] Reserve Bank of Australia. Available at: https://www.rba.gov.au/statistics/historical-data.html [Accessed 23 Jan. 2018]. Sheehan, P. and Gregory, R.G., 2013. The resources boom and economic policy in the long run.Australian Economic Review,46(2), pp.121-139. kovrnek, T., Podlubny, I. and Petr, I., 2012. Modeling of the national economies in state-space: A fractional calculus approach.Economic Modelling,29(4), pp.1322-1327.