Implications for the Australian Economy of Strong Growth in Asia

This paper was published by Reserve Bank of Australia on 19th September 2012. In this paper, the authors described and analyzed the positive effect of emergence of Asian economies on Australia economy which was represented by a trade boom and gigantic resource-sector investment. Comparing to earlier booms in commodity prices, Australian economy adjusted much more smoothly this time with predictable inflation rate, stable wage growth and low unemployment. The authors also expected that Australian economy will move to high production and export period in coming years and predicted the economic situation when the Asian economy developed in the long term. The paper is divided into four parts: Introduction, Adjustment to a boom in commodity prices, The terms of trade boom and structural change in Australia and Conclusion.
The analysis of the adjustment process was based on the theoretical model which divides a small open economy into three sectors: the resource sector (which is referred as mining from now on), the 'other’ tradable sector and the non-tradable sector. The process is described as three overlapping phase with the appreciation of real exchange rate as key factor. The first phase is when the rise in commodity prices leads to the increase in the terms of trade by 85% between 2003/04 and 2011. The deep source of this phase is the high demand for resource commodities of Asia fast emerging economies and the shortage of global supply. The strongly growth in prices resulted in appreciation in exchange rate. The chain outcome of this is the increasing purchase power and decreasing other tradable sector benefit. On macroeconomic point of view, the flexible exchange rate helped the economy to avoid high inflation. Lasting longer than expected, this phase occurred over number of years and reached the peak last year. The second phase is when the economy enters the mining investment boom period. This phase has lasted for some years and is expected to continue occurring until predicted peak of the investment at around 9% of GDP in next year. The fact that trade boom requires the high degree of the productive capacity utilization and expansion brought about strong growth of mining investment. For this goal, the input factors are reallocated from other sectors to resource sector and drop the output of other sectors. The labor is the clearest evidence. The employment growth in resource sector went up sharply to be around 10% with the largest part in resource related construction and services while it slowed in the non-tradable sector and even declined in other tradable sector. Another feature to draw labor to high invested sector is wage. In contract to sharp increase in mining sector wage, the wage remains almost the same in non-tradable sector and drops in other tradable sector. The fact that non-tradable sector is less negatively affected than the other tradable sector has been the result of “income effect” and not being exposed to appreciation of exchange rate. The fact that the inflation was expected quite accurately and the labor market is flexible, which shows in interstate migration and FIFO worker data, makes a substantial adjustment in relative wages. Another element showing the response to the trade boom is consumer price. Due to high input cost and rising utilities price inflation, the consumer price in non-tradable sector climbed up. Conversely, in tradable sector, it decreased because of appreciation in exchange rate. The last factor studied in this paper is interest rate. The ability to stabilize the domestic condition and prevent the risk of flexible exchange rate has reduced the need to adjust of interest rate compared with previous commodity price boom. The last phase is the period of increasing production and export of resource factor. This period already started with significant rise in the output of some industries. Even though there were some