IMF Executive Board Concludes 2009 Article IV Consultation with AustraliaPublic Information Notice (PIN) No. 09/101
August 7, 2009
Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case. The staff report (use the free Adobe Acrobat Reader to view this pdf file) for the 2009 Article IV Consultation with Australia is also available.
On August 5, 2009, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Australia.1
Australia was in a strong economic position at the onset of the global recession. Sound macroeconomic policies and structural reforms, together with a stable external environment, delivered 17 years of continuous economic growth. National income was boosted in recent years by a commodity price boom, which pushed the terms of trade to its highest level in more than half a century. The Commonwealth government took advantage of the favorable environment and eliminated its net debt. Banks were also in a healthy position at the onset of the turmoil, with returns on equity of 15–20 percent. Further, a conservative approach by regulators and supervisors meant that banks had relatively low leverage and high capital adequacy ratios.
The turmoil sparked by the collapse of Lehman Brothers in September 2008 had an immediate impact on Australian markets. Key commodity prices fell sharply, domestic money markets came under stress, offshore funding tightened, the currency depreciated, and equity prices plunged.
However, the crisis has not hit real activity in Australia as hard as in many other advanced economies owing to limited higher-tech manufacturing, robust commodity exports, and an effective policy response. The 425 basis point reduction in the Reserve Bank of Australia’s policy interest rate since September 2008 has been largely passed through to lending rates, while the sound banking system helped avoid a sharp contraction of credit. The flexible exchange rate has provided a buffer for export incomes. In addition, a sizable fiscal stimulus is being delivered, supporting domestic demand.
Nonetheless, the crisis highlighted some vulnerabilities and the near-term outlook remains highly uncertain. Both household debt (at over 150 percent of disposable income in 2008) and short-term external borrowing (at over 50 percent of GDP in 2008) are high by advanced country standards. Unemployment has increased, but less so than in many other advanced countries. Aggressive policy action is expected to limit the decline in activity to ½ percent in 2009. The recovery will likely be slow, with growth of 1½ percent projected for 2010, led by government spending on infrastructure, as households and businesses continue to deleverage.
Executive Board Assessment
Executive Directors commended the authorities for their timely policy response, which has effectively cushioned the impact of the global financial crisis on the Australian economy. The sizable fiscal and monetary stimulus, a flexible exchange rate, and a resilient banking sector should underpin a sustained recovery. Australia is in a strong position to deliver further macroeconomic policy stimulus if needed.
Directors noted that the near-term outlook for growth is weak and subject to high uncertainties in global financial markets. Australia’s persistent current account deficit, sizable short-term external debt, and worsening households’ balance sheets were seen as vulnerabilities. While a number of factors are at play to mitigate these vulnerabilities, including the robust supervisory framework and the widespread hedging against currency risk, vigilance continues to be required.
Directors welcomed the Reserve Bank of Australia’s early reductions in the policy rate and supported the current monetary policy stance. They saw room for further policy rate cuts, as the first line of defense in the event that the outlook for growth and inflation weakens. Directors noted that unconventional monetary policy easing measures, though unlikely to be needed, should remain in the authorities’ toolkit. They agreed that the flexible inflation-targeting framework has been successful in anchoring medium-term inflation expectations.
Directors considered that the flexible exchange rate policy provides a helpful buffer against external shocks. The depreciation of the currency helped sustain export incomes as the U.S. dollar price of commodity exports fell sharply in late 2008. Directors noted the staff’s assessment that the Australian dollar in real effective terms is broadly in line with medium-term fundamentals.
Directors welcomed the targeted, temporary fiscal stimulus, which is expected to support domestic demand in 2009 and 2010. Given low public debt, they generally considered that there remains scope for further fiscal stimulus if warranted by circumstances, while stressing the need to exercise prudence in light of the contingent liabilities associated with exceptional support provided to the financial sector. Directors welcomed the government’s commitment to a deficit exit strategy, aimed at returning the budget to surpluses over the medium term. They recognized, however, that further fiscal adjustment could be needed to achieve this objective if trend growth and the terms of trade are lower than assumed.
Directors observed that the banking sector entered the global recession from a position of strength, and that banks have subsequently increased provisioning against rising nonperforming loans. Noting that banks are exposed to risks from short-term wholesale funding, they welcomed the planned introduction of new liquidity guidelines to encourage banks to reduce reliance on this source of funding. Directors encouraged the authorities to remain vigilant to house price adjustments and to monitor banks’ property exposures closely.
Directors commended the Australian Prudential Regulation Authority for regularly stress testing financial institutions. It will be prudent to conduct future stress tests based on more extreme scenarios, and to raise capital requirements if necessary. Directors welcomed the ongoing work on crisis preparedness in the unlikely event of liquidity or solvency problems.