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Managing the Growth Shock
Warwick J. McKibbin
Director, ANU Research School of Economics
Presentation to the 2011 Economic & Social Outlook Conference, Melbourne
30 June, 2011
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Focus
What are the sources of Australias terms of
trade boom?
Is this boom likely to continue?
What Policies should be followed?
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Overview
Global Drivers ofGrowth China and India
Loose global monetary policy
Risks Fiscal Risks
Euro Crisis
Global Inflation and policy response
Implications for relative prices of commodities
Appropriate Policy Responses
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The Beginning of the Great Convergence?
Source: Angus Maddison, The world economy: historical statistics, 2003 and IMF World Economic Outlook
database (September 2006) Mark Thirlwelll, The Lowy Institute
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Summary
Global growth will be dominated by long term
trends from
The emergence of the BRICS into the globaleconomy
Large demographic changes
Productivity and technical innovation
Impact and response to environmental problems
BUT short term risks
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-2
0
2
4
6
-2
0
2
4
6
%
World GDP Growth*Year-average
%
IMF forecasts* Weighted by GDP at PPP exchange ratesSource: IMF
2012200519981977 199119841970
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TheR
isks: FiscalA
djustment
A slow motion train wreck
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Government Debt to GDP
Source OECD Economic Outlook 88 Database (November 2010)
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Required change in underlying primary balance to
stabilise debt by 2025 in per cent of potential GDP
Source OECD Economic Outlook 88 Database (November 2010)
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TheR
isks:A
Euro Crisis
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Eur Area In ustrial r ucti n2005 r = 00
70
80
90
100
110
70
80
90
100
110
Sourc : Thomson R ut rs
2010
Fr nc
Index
Greece
Euro rea
Germany
200820062006 2008 2010
Index
Italy
Spain
Portugal
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0
40
80
120
0
40
80
120
ECB Len ing t Banks*
* Lendingprovided throughmonetarypolicyoperations onlySource: central anks
Greece
Fixed-rate tenders fromOctober2008onwards
b b
Ireland
Portugal
Spain
Italy
2010200920082007 2011
Bynational central bank
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TheR
isks:G
lobal Inflation
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l l l l l l l l l l l l0
500
0
500
Fe H l ings f SecuritiesWeekly
Agency BS Agencydebt USTreasuries
US$b US$b
20002000
15001500
10001000
J
2008
S D M J S D M J S
2009 2010
D M
2011
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IMF Food Pric I d xSDR, 1995 100
Sources: IMF; RBA
Index
Year-ended change
100
130
160
100
130
160
-30
0
30
-30
0
30
LevelIndex
%%
2005 201020001995199019851980
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Consumer rice InflationYear-ended
-4
-2
0
2
4
6
-4
-2
0
2
4
6
Source: Thomson Reuters
2011
Headline
%US
Core
Euroarea
200920072011200920072005
%
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Asia olicy Interest Rates
2011
India
%
l l l l l l l0
3
6
9
12
l l l l l l l 0
3
6
9
12
%
2008201120082005
China
TaiwanThailand
Malaysia
Philippines
Indonesia
SouthKorea
2005
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Commodity prices
Rising because of
Real growth in emerging economies (Chindia)
Loose monetary policies raising nominal demand
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Australias Terms of Trade
Likely to fall from current highs because
Global supply response
Withdrawal of loose global monetary policy
Rise in non commodity price inflation
Other factors
Global climate response will tax our comparative
advantage
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Policy Responses
Key is whether the boom in the terms of trade
is permanent or temporary
Optimal response should not be based on our
ability to forecast but should manage the risks
of alternative futures
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Policy Responses
Need not need to be a contracting sector
Expand effective labour supply
Allow foreign capital and labour to flow in
Create a Sovereign Wealth Fund
Reduce excess demand which is increasing Dutch
Disease problems
Less relative price adjustment in the short run
Creates a pool of foreign currency assets that can
be used when the cycle turns
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Conclusion
Difficult but important to distinguishbetween relative price changes and globalinflation the 1970s is an important lesson
Even though the terms of trade ofcommodity exporters is likely to decline, the
overall income gains will be positive for theworld as developing countries becomeswealthier