Current Account Deficit - Assignment Example

Assessment Task 3 Executive Summary Current account deficit has certainly become one of the prime concerns for every national economy, which hinders in sustaining overall growth for a longer time. Thus, based on this scenario, it can be apparently observed that the economy of Australia realises significant growth in terms of trading activities but faces a problem relating to deficit in its current account. With this concern, the assignment will provide a brief understanding about the short and long-term economic impacts of current account deficit on Australian’s economy. It can be assumed that that nation will face crucial problems due to such impacts specifically in terms of unemployment, inflation, business process and financial growth. In this regard, it is quite indispensable for the government of the nation to adopt and execute effective measures in order to boost and promote the domestic demand of national goods and/or and develop the economic conditions of the country at large. Table of Contents 1.Executive Summary 2 2.Introduction and Background 4 3.Short Term Economic Impacts 4 4.Long Term Economic Impacts 6 5.Strategies to Combat against the Negative Effects of Widening Current Account Deficit 8 6.Summary and Conclusion 10 7.References 11 8. Appendices 13 Appendix A - Australia Current Account 13 Appendix B - Australia Current Account Deficit to GDP 13 2. Introduction and Background Macroeconomic dimension of economics is regarded as the field of studying different behaviours of economies that entail unemployment, national income and growth rate among others and their impact on the nation as well as international market. Macroeconomic issues are duly considered to be the major issues for an economy that mainly emerges due to having discrepancies in certain important developmental aspects including full employment and economic stability along with growth. It is projected that the macroeconomic issues will lead towards generating problematic situations within any particular nation in the form of lowering employment rate and raising inflation, resulting in hindering the growth of a nation at large. This factor will likely to impact the revenue, profitability, wage system and employment rates of the nations by an extensive level (McConnell, & et. al., 2009; Carson, & et. al., 2005). Correspondingly, the assignment will highlight the major macroeconomic issues that have been facing by Australia’s economy in relation to its current account deficit despite the mining boom recorded in terms of trade. Besides, various important aspects including the short along with long-term economic impacts of having deficit in current account and strategies that can be implemented by the government of the nation to address the situation will also be discussed in the assignment. 3. Short Term Economic Impacts Macroeconomic issue related to the deficit in current account often arise at the time when the trading of imported products exceeds the amount of export during a specified time frame. It will be vital to mention in this similar concern that imports along with exports play crucial roles in determining the economic stability of a nation. The relationship prevailing between these two variables is termed as the trade balance. In current scenario, several nations throughout the globe are witnessed to face the above stated issue due to the persistence of varied crucial factors. These factors might encompass imbalances prevailing between imports and exports and lack of formulating effective policies to address this situation by the respective governments of the nations. For instance, Australian economy, being a developed nation in the world, is enjoying constant financial growth over the preceding 20 years, but experiencing current account deficit issue since the year 2001 (The Daily Reckoning, 2013; Economic Watch, 2010). It will be vital to mention that the deficit in the trading account or current account may lead towards damaging the domestic economic system of the nation in short run through various ways. These ways can be determined as prevalence of lowered national interest rates, inefficient trade flows, unsatisfactory economic growth, rise in inflation rate, devaluation in currency and most vitally augmenting political as well as geo-political conflicts. Australian government, in order to eradicate the trade deficit, may increase the interest rates and commodity taxes that will eventually result in raising the level of applying for bank loan (Gould, & Ruffin, 1996). Specially mentioning, trade policies and varied macroeconomic variables are found to be quite interrelated with each other. Thus, the formation of an effective relationship between the above discussed two variables is quite important for maintaining equilibrium in the Australian economy. The linkage between trade deficit and gross domestic product (GDP) can be formed through the absorption model, which reveals the crucial effects of trade deficit in a particular economy. It is the absorption model, which provides the linkage between various macroeconomic factors including the ‘consumption’, ‘savings’, ‘investment’ and ‘income’ along with the external trade balances that possess by a nation. The trade balances form a direct relationship between the trade and the GDP of Australia, as the GDP is calculated through: GDP=C+I+(X-IM) Where, C = consumption I = Investment (X-IM) = Export – Import (World Trade Report, 2004) Thus, from the above analysis, it can be affirmed that the GDP of Australia gets decreased with the increase in the spending towards import activities. Moreover, with the rise in the current account deficit in the short run, the economy of the nation might get disrupted through having shortages in national reserve. In contrast, based on long-term effects, the domestic consumption gets highly affected due to the changes made in pricing approaches or strategies. In this similar context, an aggregate reduction in the demand and inflation can be noticed in the economy with increasing pressure from the foreign competitors (National Center for Policy Analysis, 2013; The Australian National University, No Date). 4. Long Term Economic Impacts Trade deficit signifies a sign of improving in the living standards of the people, as individuals tend to make excessive spending towards conducting import activities. It can be affirmed from a broader understanding that the long-term economic impacts of having current account deficit may be ascertained in the form of unstable economic growth, increase in the level of unemployment, rise in the amount of foreign debts and generating crisis in the domestic currency. With the increase in the level of trade deficit in the country, it is anticipated with the widening of current account deficit, the economy of Australia might get disrupted in terms of increased level of unemployment. It will be vital to mention in this regard that the unemployment level gets increased due to high outsourcing of jobs in foreign nations. Apart from this, the citizens of the nation may consume the imported products, which might lead towards lowering the demand of the domestic products at large. Consequently, the domestic business prevailing in Australia will get hampered, which would in turn, hinders rapid financial development of the nation i.e. Australia. In this similar context, the Australian economy might face problem relating to reduction of workers from their respective jobs during the period of trade deficit. According to John Peters, a Commonwealth Bank economist, affirmed that due to the deficit in trade balance, the Australian economy has noticed a drastic devaluation in its national currency. The main reason behind such issue can be apparently noted as the making of high amount payment by Australia towards the cheaper imported goods with the strong Australian Dollar (Merhab, 2014). Conceptually, having deficit in current account will impose significant impact in the employment level, as with the increase in demand of the foreign products and high imports, the demand for the domestic products eventually gets reduced, which subsequently lowers the prices of the domestic products. Besides, through lowering the prices levels, business units will face continuous pressure in lowering the wages of the workers (Economic Watch, 2010). Furthermore, one of the long-term economic impacts of current account deficit on the economy of Australia can be felt as reduced trade of the nation. Justifiably, the conduct of excessive import activities will certainly lead towards flow of Australian capital effectively along with raising the additional financial borrowing of capital as compared to other nations at large. Apart from these, the other long-term economic impacts of the macroeconomic issue concerning the augmentation in current account or trade deficit can be measured as reduction in conducting stock market activities, production business and job crisis among others (National Center for Policy Analysis, 2013; The Australian National University, n.d.). 5. Strategies to Combat against the Negative Effects of Widening Current Account Deficit In respect to the above inferences made, it can be stated that the Australian economy will be highly affected from the concern of widening current account deficit. Moreover, the economy of the nation is also observed to possess stable trade relations with varied countries throughout the globe and the prospect to attract as well as promote foreign investment (HABC, 2013). However, with the increase in the global market trading activities, the demand of the foreign products is also noticed to be increasing at large. Responsively, the position of Australian economic current account deficit is widening, as the nation is involved in performing high import activities in this present day context. However, it has been recorded that the current account deficit of Australia amounted to 13742 AUD million in the year 2014 (Trading Economics, 2014). Thus, the Australian government required to adopt certain significant remedial measures in order to alleviate such macroeconomic issue i.e. widening current account deficit, which might contribute in disrupting the favourable economic conditions of the nation by a considerable degree. These measures in the form of effective strategies or remedies have been discussed in detail in the following: a. Australian government authorities must make deliberate efforts in marketing the domestic products and/or services through increasing the spending level of the consumers belonging to the nation b. Appropriate and effective design along with execution of fiscal and monetary policies will help in strengthening both the consumers’ as well as business units’ confidence towards augmenting the demand for the domestic products c. Evidently, the Australian’s economy is noticed to follow lenient monetary mechanism unlike other countries, which might lead towards surpassing the reduction of cash rate specifically in the lending rates. In this regard, alternative monetary policy needs to be formulated for alleviating such macroeconomic issue i.e. enlarging deficit in current account d. Generally, it is often observed that the traders belonging to Australia face significant challenges due to having fluctuations in the domestic currency rates. Therefore, the government of the nation must adopt significant measures through creating flexible exchange rates in order to strengthen the Australian economy in the sphere of international trading e. It can be affirmed that the happening of worldwide financial crisis in previous years had certainly laid the foundation of widening current account deficit in Australia. Thus, in this regard, the ‘Australian Prudential Regulation Authority’ (APRA) needs to frame effectual proactive as well as ‘conservative capital adequacy’ policies to reduce the risks generate in the lending behaviours f. There lay various sectors in the Australian economy that possess higher prospects of growth that are generally owned or operated by various private bodies. Thus, the respective government authority of the nation needs to work in a coordinative manner with the private sector to accelerate the economic growth (International Monetary Fund, 2014; 2009) 6. Summary and Conclusion From the above analysis and discussion, it can be ascertained that with the increase in the global trading activities, the interdependencies between various countries throughout the globe will also raised at large. With regards to the changing scenario of the Australian economy, it can be ascertained that with the increase in the rate of current account deficit, the foreign liability against the trade deficit is continuously increasing. In this context, it can be apparently observed that Australian’s economy is getting affected with high trade imbalances due to the emergence of such a crucial macroeconomic issue. Besides, the trading activities conducted in Australia may certainly help in boosting the economic growth of the nation, but with the increase in the import level over export activities, the rapid development pace of the economy of the nation might get restricted. Specially mentioning, despite experiencing high growth in the economic activities in previous decades, the financial conditions prevailing in Australia are becoming at stake due to the persistence of varied factors emerging from the issue of widening current account deficit. These factors include high spending in the import of goods and over-reliance on foreign goods and/or services. Thus, it is quite important that the government of Australia must adopt certain key measures such as stabilisation of various effective policies and ensuring proper coordination between private and government agencies while conducting trading activities. It is expected that these measures will certainly aid in strengthening the Australian economy in long run at large. 7. References Carson, R. B et. al. 2005, Macroeconomic Issues Today: Alternative Approaches, M.E. Sharpe, United States. Economic Watch 2010, ‘Trade Deficit’. viewed 21 October 2014, http://www.habc.gr/australia_economic_outlook.asp. Gould, D. M & Ruffin, R. F 1996, ‘Trade Deficits: Causes and Consequences’, Research, viewed 21 October 2014, http://www.habc.gr/australia_economic_outlook.asp. HABC 2013, ‘Australia’s Economic Outlook’. Doing Business in Australia, viewed 21 October 2014, http://www.habc.gr/australia_economic_outlook.asp. 1International Monetary Fund 2014, 2013 Article IV Consultation: Staff Report; Press Release; and Statement by the Executive Director for Australia, Australia, viewed 21 October 2014, http://www.imf.org/external/pubs/ft/scr/2014/cr1451.pdf. 2International Monetary Fund 2009, Australia 2009 Article IV Consultation, Concluding Statement, Australia and the IMF, viewed 21 October 2014, https://www.imf.org/external/np/ms/2009/062309a.htm. McConnell, C. R et. al. 2009, Economics: Principals, Problems and Policies. McGraw-Hill/Irwin, United States. Merhab, B 2014, ‘Lower $A Likely To Shrink Trade Deficit’, Business, viewed 21 October 2014, http://www.iidc.indiana.edu/?pageId=508. National Center for Policy Analysis 2013, ‘What Effect Does the Trade Deficit Have on the Economy?’ Research, viewed 21 October 2014, http://www.ncpa.org/sub/dpd/index.php?Article_ID=20540. The Australian National University No Date, ‘The Economic Impact’, An Australia–USA Free Trade Agreement: Issues and Implications, viewed 21 October 2014, https://www.dfat.gov.au/publications/aus_us_fta_mon/Chapter5.pdf. The Daily Reckoning 2013, ‘End of the Australian Boom?’ viewed 21 October 2014, https://www.dfat.gov.au/publications/aus_us_fta_mon/Chapter5.pdf. Trading Economics 2014, ‘Australia Current Account’, viewed 21 October 2014, http://www.tradingeconomics.com/australia/current-account. World Trade Report 2004, International Trade and Macroeconomic Policy. Coherence, viewed 21 October 2014, http://www.wto.org/english/res_e/booksp_e/anrep_e/wtr04_2a_e.pdf. 8. Appendices Appendix A - Australia Current Account Australia Current Account during the period 2004 to 2014 (Source: Trading Economics, 2014) Appendix B - Australia Current Account Deficit to GDP Australia Current Account Deficit to GDP during the period 2004 to 2014 (Source: Trading Economics, 2014) Read More