Macro Economics of Australia - Research Proposal Example

Macroeconomics The Case of Australia Executive Summary The macroeconomic variables play a vital part in determining the economic situation prevailingin a nation and because of the importance that could be associated with them, this topic has been taken up as the subject of this paper. The paper analyses the behavior of variables like rate of inflation, gross domestic product, gross investment, unemployment rate, private consumption, etc. that are the most vital determinants of the economic situation that an economy is going through at any point of time. The pattern of behavior that is exhibited from the growth structures of the variables could be assumed to be concluding that the economy in the period of study is displaying a stable situation in spite of the regular periods of booms and recessions that are a part of the regular business cycle which every economy has to pass through. Apart from that, if the long run pattern has to be considered, it is found that the economy exhibits a stable condition. Table of Contents 3 Introduction 4 Data Collection and Research Methodology 5 Analysis 6 1. The Inflation rate 6 2. The Nominal Exchange Rate between Australia and USA. 7 3. Private Final Consumption 8 4. Gross Fixed Investment 9 5. Unemployment Rate 9 6. Labour Productivity 10 7. Money Supply 11 8. Real Interest Rate 11 9. The Real Exchange Rate 12 10. The Current Account Balance 13 11. Inventory Investment 14 12. Treasury Bonds 15 13. Treasury Bills 16 Bibliography 20 Appendix 21 Introduction The pattern of movement of the macroeconomic variables in an economy are the ones that exhibit the way that the economy is moving at present, i.e., the present situation of the economy. The patterns of behavior that they exhibit are very important to take decision about the future plans and policies that the economy should be subjected to. For example, if an economy is going through a high inflationary phase then, the appropriate monetary policy should be to reduce the flow of money in the economy and thus check the amount of liquidity in the country. However, before doing so, it is also necessary for the decision makers to find out the exact root of the disturbance, i.e., if the excess money supply in the economy and not a low rate of interest is the cause behind the rising inflation. Thus the importance of checking the behavior of the macroeconomic variables is of key importance for the nationals and particularly the decision makers of a nation. In this paper, attempt has been made to study the pattern of behavior of a number of relevant macroeconomic variables, viz., the inflation rate, the gross investment, the inventory investment, the nominal rate of exchange between Australian and US dollars, the real exchange rate, the real rate of interest, the private household consumption, the unemployment rate, productivity of labour, the supply of money in the economy and the current account balance. The movements of all these variables taken together indicate how stable the economic situation is and how stable it is going to be over the future years and thus provide a very vital and essential information for decision making. However, an important thing to note here is that, most variables are expressed in terms of current prices and thus are prone to inflationary effects. In order to nullify the impact of inflation if any, on their values, they have all been detrended and the pattern in their movement is studied after that. The movement that they exhibit after that could be considered as the ones that display the true pattern of movement of the variables and provide the true information about the economic conditions. Data Collection and Research Methodology As was specified in the introduction to the chapter, in order to conclude about the economic condition prevailing in a nation, it is very important to have information about the situation that the nation had been passing through over the past few periods, i.e., it is necessary to stay informed about the behavior of certain relevant macroeconomic variables over the past few points of time. The information on the variables chosen for study, which already have been specified in the introduction to this chapter, is obtained from the archives of the Reserve bank of Australia. The data so collected are quarterly in nature. Besides the variables on whom data are available readily, there are also some that need to be calculated separately, viz., the labour productivity, real exchange rate and the real rate of interest. They are calculated according to the following formulae – Labour Productivity = Gross Domestic Product / Aggregate Labour Force. Real Exchange Rate = Nominal rate of exchange / Rate of inflation. Real rate of interest = Nominal rate of interest / Rate of inflation. Since macroeconomic variables like investment, trade balance, interest rates, exchange rates, etc. are all likely to show upward trends in their behavior over time because of being measured at the current price levels, it would be more relevant and would lead to a more significant research, if instead of considering the raw values of the variables, their growth rate is being considered. Hence for almost all variables the growth in their values are considered where the growth rate is calculated as, Growth Rate = (Present value – Past Value) / Past Value. However, the growth rates might not produce relevant results for some of the variables and hence the trends in these variables are calculated on the basis of raw values that they exhibit. The variables whose growth rates have been considered and those which are calculated on the basis of raw values would become obvious as we proceed. Besides calculating the trends in the values of the variables, the standard deviation and average value along with their correlation with each other has also been calculated. The standard deviation is being considered in order to find out the level of fluctuation among the values of the same variable, while the correlation coefficient will show how each of them affect one another thus indicating whether any causal relation exists as such or not. Analysis 1. The Inflation rate The inflation rate here is calculated by means of CPI inflation. The growth rate in the rate of inflation is not essential since the definition of inflation is the rate of change in the price level and as the price level is actually a function of time, so, the rate of inflation could itself be considered as a correction for the fluctuations in the price level. Thus, there is no need to de-trend the rate of inflation. From the line plot below, it is obvious that the rate of inflation had not shown any significant fluctuations over the years except once between March 2000 and 2001 which too was corrected very soon. The movements in the rate of inflation could be considered as cyclical in nature, with almost equal gaps between periods of high and low inflation. 2. The Nominal Exchange Rate between Australia and USA. The movements in the nominal exchange rate are significant only after the values have been de-trended for which the rate of change in their values are being considered. The exchange rate is found to move in a cyclical manner thus indicating the effect of business cycles on the variable. However, the changes had never been too high and actually are in line with the rate of inflation which in fact indicates that the exchange rate is dependent upon the inflation rate. The higher the inflation rate is, the lower will be the rate of exchange since in situations of high inflation, the value of domestic currency in terms of the foreign currencies fall. 3. Private Final Consumption Private final consumption is also found to display a cyclical trend. Here also the growth rate is being considered in order to correct for the rate of inflation and the difference in the time of study. 4. Gross Fixed Investment The gross fixed investment had also been exhibiting a cyclical trend thus indicating that at times of high inflation, people prefer to keep their money with themselves rather than investing them. 5. Unemployment Rate The change and rather the cyclical movements in the rate of unemployment is also quite prominent over the years and are actually follow the reverse pattern of behavior exhibited by the rate of inflation, which actually is in line with Okun’s Law that says that inflation rate and the unemployment rate has a trade-off between them. 6. Labour Productivity The change in the productivity of labour is also prominent from the graph below and show proof that the labor productivity over the years had reached a trough at times of a high unemployment rate prevailing in the economy and vice-versa. 7. Money Supply The money supply had also been exhibiting cyclical trends in their pattern of behavior and are actually found to be high when the rate of inflation is high thus indicating that the a rise in liquidity in the economy had a vital part to play in the high rate of inflation in the economy. 8. Real Interest Rate The real rate of interest is actually an inflation corrected version of the nominal interest rate and thus even when others are exhibiting cyclical or seasonal trends, the change in the real rate of interest is almost stable over the years thus indicating that the economy is actually going strong over the years. 9. The Real Exchange Rate The real rate of exchange similar to the real interest rate had been exhibiting stable movements over the years and that is why the conclusion again could be drawn that the economy had never been much affected by external factors and even if it had, it had recovered from the situation very soon leaving little impact on the future behavior of the variable. 10. The Current Account Balance The current account balance shows the change in the change occurring in the trade pattern of an economy. A positive change implies that the amount of exports has exceeded the amount of imports and thus the economy is actually growing. The graph below suggests that the trade balance is exhibiting a positive change at times of high inflation thus implying that the economy has a greater inflow of money from trade that had been acting as a significant reason behind inflation in the economy. 11. Inventory Investment The inventory investment shows a cyclical behavior as well and thus implies that the variables are actually moving in a synchronized fashion with each other. 12. Treasury Bonds Behavioral pattern of the rate of interest on 2 – year treasury bonds is also cyclical in nature. 13. Treasury Bills The data on treasury bills is unavailable after that of March 2002, but the pattern that is exhibited by the rate of interest are cyclical as well like all the previous variables. Conclusion Looking at the trends in the movements in the macroeconomic variables above, it could be said that the economy is actually at a stable position and still going strong when the rest of the world is experiencing a tumultuous situation. Moreover, there are some additional predictions that could be made as well. (i) Real GDP Growth – The real GDP Growth had not been calculated before but from the diagram below it is prominent that the variable is exhibiting seasonal trends as well and thus over the next quarter it is obvious that they would be displaying the same pattern of behavior. Since the economy had just experienced a trough in June 2009 and is at the verge of recovery, it is expected to be doing well during the last quarter of the year and the first quarter of the next year. Now, GDP in an open economy is expressed as, GDP = f (C(Y), I(r), G, X(e), - M(e)) where, C = Private Consumption Expenditure, Y = income and C’(Y) > 0. I = Gross investment, r = real rate of interest and I’(r) < 0 G = Government Expenditure which is given exogenously X = Exports, M = Imports, e = real exchange rate and X’(e) > 0, M’(e) < 0. GDP is positively dependent on all the above factors, so that if any of them shows an increasing trend, then given the movements of others are constant, GDP will be increasing as well. In this case, it is found that the private consumption expenditure and the gross investment expenditure are expected to exhibit an upward rising trend in the coming quarters. Also, the current account balance or the trade balance given by the difference between exports and imports also will be following a similar pattern. The current account balance is positively dependent upon the real exchange rate and if the government is found to behave in an expected manner in the sense that it will hike the exchange rate, then the GDP will be rising as well. . The value of real GDP could be predicted from the calculated values of mean and standard deviation and is expected to lie between 228905.5 ± 29781.31 (following the rule of value expected to lie between mean ± SD). (ii) The Rate of Inflation – The rate of inflation is predicted to be falling in the coming quarters. This is because the rate of inflation depends both upon the money supply in the economy and GDP, which means that it is related indirectly to all the factors upon which the GDP of an economy depends. Greater the flow of money in an economy, the higher will be the inflation rate and again, the higher the GDP of an economy is, the inflation rate will tend to be lower, since a high GDP implies an excess production in the economy and thus a fall in the general price level. Thus the behavior of the variable will depend upon the power of vigor of either of the variables. The one that has a stronger controlling power will pull the inflation rate in a direction that goes with it. However, the unemployment rate is found to be rising high and thus following the inverse relation between unemployment rate and rate of inflation, popularized by Okun’s Law, it could be said that the rate of inflation would be falling, since the forces that lead to a fall in the rate of inflation will overcome that which leads it to rise. The rate of inflation is not found to diverge much from its mean value and in the next quarter is expected to lie between 0.6463 ± 0.6086 (following the rule of value expected to lie between mean ± SD). (iii) Money Supply – A rise in the cash rate implies a fall in the liquidity in the economy. Generally the government of a nation decides to do so when going through an inflationary phase. In this case, the economy since is predicted to experience an inflationary phase during the period, it is expected of the government to put a hold on it and thus increase the cash rate in the economy. (iv) Nominal Exchange Rate – The nominal exchange rate will also be rising during that point of time which is obvious given the expectation about a high inflationary period ahead. (v) House Price Indices – The house price indices are also expected to rise since the economy will actually be on the better side of the business cycle during the latter part of 2009 and the beginning of 2010. Bibliography The Reserve Bank of Australia. Alphabetical Index of Statistics. Available at http://www.rba.gov.au/Statistics/AlphaListing/alpha_listing_i.html [Accessed on October 10, 2009]. Appendix Mean and SD variables mean SD current Acount balance 0.045710 0.261199 Labour productivity 0.003334 0.006428 gross investment 0.015869 0.032378 consumption 0.014808 0.005607 inflation 0.650943 0.613509 interest rate -0.011613 0.121926 M3 0.025627 0.016950 nominal Exchange rate 0.002714 0.062602 tr Notes (3 months) -0.013814 0.075556 tr Bonds(2 years) -0.007794 0.113055 unemployment rate -0.005383 0.047331 real ER -0.382759 2.562999 inventory investment 10.266343 74.871393 real GDP 0.008192 0.005865 Correlations CURR_AC LAB_PRD GRS_INV CONS INFL REAL_INT M3 NOM_ER TR_NOTES TR_BONDS UNEMP REAL_ER INVENTOR GDP CURR_AC Pearson Correlation 1 1.000 -1.000 -1.000 .034 -.922 -1.000 -.871 .014 -.975 -.998 -.107 .987 .036 Sig. (2-tailed) . .000 .000 .000 .809 .000 .000 .000 .947 .000 .000 .442 .000 .795 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 LAB_PRD Pearson Correlation 1.000 1 -1.000 -1.000 .029 -.922 -1.000 -.871 -.269 -.974 -.998 -.109 .986 .848 Sig. (2-tailed) .000 . .000 .000 .834 .000 .000 .000 .193 .000 .000 .433 .000 .000 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 GRS_INV Pearson Correlation -1.000 -1.000 1 1.000 -.034 .922 1.000 .871 -.038 .975 .998 .107 -.987 .453 Sig. (2-tailed) .000 .000 . .000 .808 .000 .000 .000 .855 .000 .000 .442 .000 .001 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 CONS Pearson Correlation -1.000 -1.000 1.000 1 -.034 .922 1.000 .871 .299 .975 .998 .107 -.987 .125 Sig. (2-tailed) .000 .000 .000 . .808 .000 .000 .000 .146 .000 .000 .442 .000 .372 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 INFL Pearson Correlation .034 .029 -.034 -.034 1 .044 -.034 -.069 .346 .009 -.042 .146 -.003 -.121 Sig. (2-tailed) .809 .834 .808 .808 . .753 .808 .618 .091 .949 .764 .291 .984 .389 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 REAL_INT Pearson Correlation -.922 -.922 .922 .922 .044 1 .922 .849 .672 .933 .908 .150 -.933 .259 Sig. (2-tailed) .000 .000 .000 .000 .753 . .000 .000 .000 .000 .000 .278 .000 .061 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 M3 Pearson Correlation -1.000 -1.000 1.000 1.000 -.034 .922 1 .871 -.438 .975 .998 .107 -.987 .080 Sig. (2-tailed) .000 .000 .000 .000 .808 .000 . .000 .029 .000 .000 .442 .000 .570 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 NOM_ER Pearson Correlation -.871 -.871 .871 .871 -.069 .849 .871 1 -.002 .903 .865 .106 -.884 .073 Sig. (2-tailed) .000 .000 .000 .000 .618 .000 .000 . .991 .000 .000 .447 .000 .601 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 TR_NOTES Pearson Correlation .014 -.269 -.038 .299 .346 .672 -.438 -.002 1 .720 -.431 -.046 -.343 -.023 Sig. (2-tailed) .947 .193 .855 .146 .091 .000 .029 .991 . .000 .032 .826 .094 .913 N 25 25 25 25 25 25 25 25 25 25 25 25 25 25 TR_BONDS Pearson Correlation -.975 -.974 .975 .975 .009 .933 .975 .903 .720 1 .969 .113 -.981 .216 Sig. (2-tailed) .000 .000 .000 .000 .949 .000 .000 .000 .000 . .000 .416 .000 .121 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 UNEMP Pearson Correlation -.998 -.998 .998 .998 -.042 .908 .998 .865 -.431 .969 1 .107 -.983 -.338 Sig. (2-tailed) .000 .000 .000 .000 .764 .000 .000 .000 .032 .000 . .443 .000 .013 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 REAL_ER Pearson Correlation -.107 -.109 .107 .107 .146 .150 .107 .106 -.046 .113 .107 1 -.141 -.162 Sig. (2-tailed) .442 .433 .442 .442 .291 .278 .442 .447 .826 .416 .443 . .310 .246 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 INVENTOR Pearson Correlation .987 .986 -.987 -.987 -.003 -.933 -.987 -.884 -.343 -.981 -.983 -.141 1 -.360 Sig. (2-tailed) .000 .000 .000 .000 .984 .000 .000 .000 .094 .000 .000 .310 . .008 N 54 54 54 54 54 54 54 54 25 54 54 54 54 53 GDP Pearson Correlation .036 .848 .453 .125 -.121 .259 .080 .073 -.023 .216 -.338 -.162 -.360 1 Sig. (2-tailed) .795 .000 .001 .372 .389 .061 .570 .601 .913 .121 .013 .246 .008 . N 53 53 53 53 53 53 53 53 25 53 53 53 53 53 Read More