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### House Price Assessment
- Real house prices rose by 130 percent in the last 20 years in Australia.
- As of June 2011, real house prices have fallen by 5 percent (year-on-year) since the peak in mid-2010.
- House prices appear overvalued by about 10–15 percent as of June 2011, using a combination of simple metrics and models.

Evidence and model results
- Price-to-income ratio:
  - Suggests an overvaluation of about 15 percent compared to its long-term average.
  - Reported deviation relative to 20-year average as of June 2011: Price-to-income ratio 14.4.
  - Based on Australian Property Monitors data (nationwide, includes non-urban areas).
- Price-to-rent ratio:
  - Suggests an overvaluation of about 15 percent.
  - Reported deviation relative to 20-year average as of June 2011: Price-to-rent ratio 15.2.
  - Based on Real Estate Institute of Australia and RP Data Rismark (includes houses and apartments).
- Model-based estimates:
  - Indicate house prices are overvalued by about 10 percent from a medium-term perspective.
  - Model uses nationwide RP Data Rismark series and accounts for demographics, mortgage interest rates, and the terms of trade as a proxy for future income.
  - Under model assumptions, a 10 percent fall in the terms of trade could result in an 8 percent fall in real house prices over the medium term.

Limitations and caveats
- Simple ratios do not account for:
  - The fall in nominal mortgage interest rates since the 1990s.
  - Strong population growth.
  - Increasing scarcity of land close to urban centers.
- The 20-year average benchmark is an imperfect proxy for equilibrium house prices.
- OECD-based measures using ABS series suggest larger overvaluation (25–35 percent) but the ABS series:
  - Covers only detached houses in capital cities (excludes apartments and row houses).
  - The ABS price-to-rent series includes only rents for detached houses.
  - Broader measures including apartments show much higher rental yields.
- The model does not take into account supply-side factors such as local government regulations on land use.

Monitoring priorities and scenarios
- Medium-term risk scenario: A 10 percent decline in the terms of trade could mechanically reduce real house prices by about 8 percent per the model.
- Monitor:
  - House price developments given the estimated 10–15 percent overvaluation.
  - Household balance sheet repair: saving rose to more than 10 percent of household disposable income in early 2011; household debt stabilized at about 150 percent of disposable income.
  - Potential effects on consumer confidence and consumption if house prices fall further.

### Fiscal Consolidation and Medium-Term Fiscal Policy
- Planned consolidation: adjustment of about 3½ percent of GDP in the Commonwealth’s cash balance over the next two years.
- Immediate relief and rebuilding support: Over six years, around $A 6½ billion (or about 0.5 percent of GDP) is being provided.
- Commonwealth government net debt: 6 percent of GDP.
- Staff advice if growth strengthens: save higher-than-expected tax revenue to avoid overheating and take pressure off the exchange rate.
- Fiscal space: capacity to delay return to surplus and, if needed, take temporary discretionary measures.

Medium-term fiscal framework and staff recommendations
- Government fiscal strategy envisages three pillars:
  - Achieving budget surpluses, on average, over the medium term.
  - Keeping taxation as a share of GDP below the 2007–08 level on average (23½ percent of GDP).
  - Improving the government’s net financial worth over the medium term.
- Spending rule: while the economy is growing at or above trend, real spending growth, on average, will be capped at 2 percent annually until surpluses are at least 1 percent of GDP.
- Staff recommendation: target a budget surplus of more than 1 percent of GDP, on average, for the period beyond 2013/14 while the mining boom continues to support growth.
- Automatic stabilizers: allow to operate fully in both directions; run sizable surpluses during upswings to avoid overheating; in downturns, sizable but temporary deficits would be appropriate.

Stress scenario estimates
- Staff estimates on a severe terms-of-trade shock:
  - A permanent fall in the terms of trade of 30 percent could reduce nominal GDP by 6 percent relative to the baseline (assuming that the exchange rate depreciates by 15 percent) and worsen the budget balance by 2 percent of GDP.

Institutional recommendations
- Support for establishment of a Parliamentary Budget Office.
- Aim to increase the share of expenditure covered in the annual budget process to enhance the quality of spending decisions.
- Strengthen Commonwealth balance sheet to contain economy-wide debt-servicing costs.

### Tax, Structural Reforms, and Carbon Pricing
Tax and structural reform priorities
- Staff recommended continued tax reform priorities:
  - Remove inefficient taxes such as state stamp duties (including on home sales that discourage worker mobility) and insurance taxes.
  - Improve work incentives by further reducing effective marginal tax rates.
  - Encourage investment through business tax reforms.
  - Options to replace lost revenue include more reliance on a consumption-based tax, reforming land taxes, and broadening the minerals resource rent tax beyond coal and iron ore.
- Structural reforms welcomed:
  - Steps to raise labor participation and invest in skills training.
  - 2011/12 budget measures to increase labor supply: reducing marginal tax rates for single parents, phasing out tax breaks for dependent spouses under forty years old, increasing childcare support, expanding work requirements and wage subsidies for disability beneficiaries and the long-term unemployed, and allowing pensioners to work more hours without losing income support.
  - Vocational training expansion and reforms in education, infrastructure, and harmonization of business regulations.
- Staff recommended government resist pressures to prop up declining industries.

Authorities’ implemented measures (reported)
- Tripling the tax-free threshold from $A 6,000 to $A 18,200.
- Reducing income support payment withdrawal rates and increasing income support free areas.
- Cutting company tax and providing tax relief and simplification for small business.
- Government opposed to raising consumption taxes.
- Tax reforms intended to capture better returns from nonrenewable resources and reinvest in business tax cuts, infrastructure, and superannuation savings.

Carbon pricing and ETS (key details)
- Timing and target:
  - Australia plans to introduce a price on carbon in July 2012.
  - Emissions Trading Scheme (ETS) to progressively reduce CO2 and other greenhouse gases to at least 5 percent below year 2000 levels by 2020.
- Coverage and mechanics:
  - Around 500 large emitting companies required to purchase and surrender a permit for each metric ton of emissions produced.
  - Initially the permit price fixed at $A 23 per metric ton of CO2 equivalent; after July 2015 price determined by market trading.
  - Permits allocated for free to emissions-intensive and trade-exposed industries and electricity generators to help transition.
  - Emissions from fuel used in light passenger-vehicles are not covered; fuel used in aviation, off-road, and by some businesses will be effectively priced through the fuel excise system.
- Fiscal and inflationary impacts:
  - Australian Treasury estimates sale of permits and application of a carbon price will raise receipts of $A 18.2 billion over the three years to 2014/15 (about 0.3 percent of annual GDP on average for the three years).
  - Treasury modeling shows the scheme would increase the Consumer Price Index by about 0.7 of a percentage point in late 2012.
  - Low- and middle-income households compensated via income tax cuts and transfer payments; tax-free threshold increased and welfare beneficiaries assisted.
  - Overall compensation exceeds revenue; Australian Treasury projects an increase in the cash budget deficit of about $A 4.1 billion for the four years to 2014/15, which is less than about 0.1 percent of annual GDP (on average for the four years).

### Financial Sector Stability and Banking
Banking soundness and performance
- Bank profits have recovered and the return on equity for the major banks is now around pre-crisis levels.
- Capital adequacy has improved; Common equity as a share of tangible assets has risen to nearly 5 percent for the four large banks.
- The ratio of nonperforming loans to total assets decreased slightly from a peak of 1.7 percent in March 2010.
- Loans-to-deposits ratio has fallen by more than 10 percentage points since early 2007 to less than 120 percent in mid-2011.
- Share of funding from short-term debt (original maturity basis) has fallen to just over 20 percent.

Concentration and household debt
- Household debt remains high at 150 percent of disposable income.
- The assets of the four large banks comprise about three-quarters (about 75 percent) of total bank assets.
- The four large banks account for more than 80 percent of mortgage lending.
- The assets of the four large banks comprise about 180 percent of GDP.
- The four major banks’ subsidiaries and branches control 90 percent of the assets of New Zealand’s banking sector.

Regulation, Basel III, and recommended measures
- APRA proposed early implementation of Basel III:
  - minimum 4.5 percent Common Equity Tier 1 ratio from January 2013;
  - 6 percent Tier 1 capital ratio from January 2013;
  - capital conservation buffer of 2.5 percent from January 2016.
- APRA will maintain its current conservative requirements for determining risk-weighted assets.
- Staff welcomed APRA’s supervisory approach but noted need to ensure APRA’s capacity keeps pace with emerging risks and evolving international norms.
- Staff supported more comprehensive stress tests, including tests incorporating a disruption to funding markets.
- Staff encouraged authorities to consider higher capital requirements on banks that are systemically important in the domestic market.
- Staff recommended authorities encourage banks to reduce further exposure to short-term external debt.
- APRA could consider merits of introducing measures along the lines of the Net Stable Funding Ratio (NSFR) ahead of the 2018 schedule discussed by the Basel Committee.
- Proposed legislation to allow Australian banks to issue covered bonds would help increase the share of long-term funding.

Stress test reference scenario (2009/10)
- Assumed a global economic downturn resulting in a 3 percent contraction of real GDP in Australia in the first year followed by a V-shaped recovery.
- Rise in the unemployment rate to 11 percent.
- Fall in house prices of 25 percent.
- Fall in commercial property prices of 45 percent.
- Results suggested none of the banks would have breached the 4 percent minimum Tier 1 capital requirement of the Basel II framework under that scenario.

Macroprudential and crisis management
- Council of Financial Regulators (CFR) comprises representatives from the RBA, APRA, the Treasury, and ASIC and has maintained a focus on systemic risks.
- Trans-Tasman crisis management cooperation with New Zealand; MoU and protocols in place.
- Financial Claims Scheme:
  - Current deposit guarantee cap: $A 1 million.
  - Cap scheduled to be reduced to $A 250,000 in February 2012, which will still cover around 99 percent of deposit accounts in full.

### External Vulnerability and Exchange Rate
- Net external liabilities fell from a peak of 62 percent of GDP in 2009 to about 57 percent of GDP in mid-2011.
- Staff project net external liabilities to increase to 68 percent of GDP in 2016.
- Staff project the current account to widen to 6⅓ percent of GDP by 2016.
- Projected widening driven in large part by investment to increase export capacity (e.g., investment in large LNG projects expected to treble to 3 percent of GDP in 2013–14 and boost total exports by 3–4 percent).
- Much mining investment expected to be financed through foreign direct investment, retained earnings, and long-term debt.
- 44 percent of external debt is denominated in Australian dollars and much of remaining debt is hedged.
- Staff analysis suggests the Australian dollar is overvalued by 10–20 percent from a medium-term perspective:
  - Macroeconomic balance (MB) approach implies overvaluation of about 11 percent (current account deficit norm at 4.6 percent of GDP).
  - Equilibrium real exchange rate (ERER) approach suggests overvaluation of 16.4 percent (August 2011).
  - External sustainability (ES) approach implies overvaluation of 19.4 percent assuming NFL stabilizes at 55 percent of GDP.
- Consensus forecasts show a depreciation of 6½ percent against the U.S. dollar over the next two years.
- Flexible exchange rate provides buffer to funding shocks: depreciation would stimulate tradables sector and reduce foreign exchange funding required by banks.

### Economic Outlook, Inflation, and Monetary Policy
Outlook and risks
- Strong commodity demand from emerging Asia underpins favorable prospects.
- Mining boom expected to be long-lasting but may amplify business cycle and increase exposure to commodity price swings.
- Risks to growth projections are tilted to the downside because of concerns about the global outlook.
- Upside risk: the mining boom may have a larger-than-expected impact on growth and inflation.

Monetary policy and inflation
- Underlying inflation had risen to 3 percent (annualized rate in the first half of 2011); headline inflation reached 3½ percent year-on-year in the second quarter.
- Headline consumer price index rose 3.6 percent through the year to the June quarter 2011, of which food prices (mostly fruit and vegetables) accounted for 1.0 percent.
- RBA judged it prudent to maintain the cash rate unchanged at 4.75 percent since November 2010; Board remained concerned about the medium-term outlook for inflation.
- If the recovery remains on track, a further tightening of monetary policy is likely to be required to contain inflation.

Monetary policy space and crisis response
- In severe global adverse developments:
  - The free-floating exchange rate provides an important buffer to external shocks.
  - The RBA has ample scope to cut policy interest rates.
  - There is fiscal space to delay the return to surplus and to take temporary discretionary measures.

### Recovery, Trade, and Investment Dynamics
- Australia’s recovery is driven by exceptionally strong terms of trade and growing links to Asia, especially China.
- Mining production accounts for only around 9 percent of GDP but mining investment is expected to reach record highs as a share of GDP over the next two years.
- Private investment and capital expenditure are rising; mining sector profits have increased as a share of GDP.
- Mineral export volumes slowed in early 2011 due to natural disasters affecting coal and iron ore exports.
- Imports, especially of capital goods, have rebounded since the crisis.

### Household Vulnerabilities
- Household debt remains high at 150 percent of disposable income.
- Household saving rate reached 10½ percent of disposable income in June 2011.
- Accompanying shifts: reduced appetite for most types of debt, increased debt repayments, and easing of household credit growth.
- Housing market remains in undersupply, but house prices softened by around 2 to 2½ percent over the year to the June quarter.
- Real wealth composition: financial wealth accounts for a relatively low share while housing wealth accounts for a large share; household net wealth has fallen since the crisis.

### Key Macroeconomic Indicators and Projections (selected exact figures)
- Nominal GDP (2010): $A 1,346 billion
- GDP per capita (2010): US$55,332
- Population (2010) December: 22.5 million
- Unemployment rate (August 2011): 5.3 percent
- Output and demand (percent change):
  - Real GDP: 2008: 2.6; 2009: 1.4; 2010: 2.7; 2011: 1.8; 2012: 3.3
  - Total domestic demand: 2008: 3.5; 2009: -0.7; 2010: 4.2; 2011: 4.4; 2012: 3.9
  - Private consumption: 2008: 1.9; 2009: 1.0; 2010: 2.8; 2011: 3.1; 2012: 2.3
  - Total investment: 2008: 7.9; 2009: -3.2; 2010: 5.8; 2011: 5.6; 2012: 9.0
  - Net exports (contribution to growth): 2008: -1.5; 2009: 2.7; 2010: -1.6; 2011: -2.8; 2012: -0.7
- Inflation and unemployment:
  - CPI inflation: 2008: 4.4; 2009: 1.8; 2010: 2.8; 2011: 3.5; 2012: 3.3
  - Unemployment rate: 2008: 4.3; 2009: 5.6; 2010: 5.2; 2011: 5.0; 2012: 4.8
- Fiscal indicators (cash basis, percent of GDP):
  - Receipts: 2008: 24.6; 2009: 23.0; 2010: 22.0; 2011: 21.6; 2012: 23.0
  - Payments: 2008: 22.9; 2009: 25.2; 2010: 26.2; 2011: 25.1; 2012: 24.8
  - Underlying cash balance: 2008: 1.7; 2009: -2.2; 2010: -4.3; 2011: -3.5; 2012: -1.8
  - Net debt: 2008: -3.8; 2009: -1.3; 2010: 3.3; 2011: 5.9; 2012: 7.5
- Balance of payments (percent of GDP): Current account: 2008: -4.5; 2009: -4.2; 2010: -2.7; 2011: -2.2; 2012: -4.7
- Terms of trade (percent change): 2008: 13.0; 2009: -9.9; 2010: 16.3; 2011: 13.6; 2012: -6.8
- External assets and liabilities (percent of GDP): Net external liabilities: 2008: 56.9; 2009: 61.9; 2010: 57.0; 2011: 55.6; 2012: 57.9

### Policy Recommendations (explicit and operational)
- Target a budget surplus of more than 1 percent of GDP, on average, for the period beyond 2013/14 while the mining boom supports growth.
- Allow automatic stabilizers to operate fully in both directions; run sizable surpluses during upswings to avoid overheating and permit sizable temporary deficits in downturns.
- Save higher-than-expected tax revenue if growth strengthens to avoid overheating and reduce exchange rate pressure.
- Continue tax and structural reforms to:
  - Remove inefficient taxes (explicitly including state stamp duties on house sales).
  - Reduce effective marginal income tax rates.
  - Encourage investment through business tax reform.
  - Consider revenue options such as greater reliance on consumption and land taxes and broadening the minerals resource rent tax.
- Support APRA’s plans for comprehensive stress testing including funding market disruptions and consider higher capital requirements for systemically important banks in line with Financial Stability Board discussions.
- Encourage banks to reduce further short-term external debt and consider NRFR/NSFR-type measures ahead of international timetables.
- Maintain intensive supervision and contingency planning; strengthen crisis management frameworks including trans-Tasman cooperation.

### Operational recommendation for the IMF program cycle
- Staff recommends that the next Article IV consultation be held on the standard 12-month cycle.

*Source: Box 1, “House Price Assessment,” and selected sections from the 2011 ARTICLE IV REPORT AUSTRALIA (content as provided).*

### 1. House Price Assessment _________________________________________________________________________ 8

### 1. House Price Assessment

### Key findings
- Real house prices rose by 130 percent in the last 20 years in Australia.
- As of June 2011, real house prices have fallen by 5 percent (year-on-year) since the peak in mid-2010.
- House prices appear overvalued by about 10–15 percent as of June 2011, using a combination of simple metrics and models.

### Evidence and metrics used
- Price-to-income ratio:
  - Suggests an overvaluation of about 15 percent compared to its long-term average.
  - Reported deviation relative to 20-year average as of June 2011: Price-to-income ratio 14.4.
  - Based on Australian Property Monitors data (nationwide, includes non-urban areas).
- Price-to-rent ratio:
  - Suggests an overvaluation of about 15 percent.
  - Reported deviation relative to 20-year average as of June 2011: Price-to-rent ratio 15.2.
  - Based on Real Estate Institute of Australia and RP Data Rismark (includes houses and apartments).
- Model-based estimates:
  - Indicate house prices are overvalued by about 10 percent from a medium-term perspective.
  - Model uses nationwide RP Data Rismark series and accounts for demographics, mortgage interest rates, and the terms of trade as a proxy for future income.
  - Under model assumptions, a 10 percent fall in the terms of trade could result in an 8 percent fall in real house prices over the medium term.

### Limitations and caveats noted
- Simple ratios (price-to-income, price-to-rent) do not account for:
  - The fall in nominal mortgage interest rates since the 1990s.
  - Strong population growth.
  - Increasing scarcity of land close to urban centers.
- The 20-year average benchmark is an imperfect proxy for equilibrium house prices.
- OECD-based measures using ABS series suggest larger overvaluation (25–35 percent) but the ABS series:
  - Covers only detached houses in capital cities (excludes apartments and row houses).
  - The ABS price-to-rent series includes only rents for detached houses.
  - Broader measures including apartments show much higher rental yields.
- The model does not take into account supply-side factors such as local government regulations on land use; changes to these regulations would affect land prices.

### Policy implications and scenarios
- Medium-term risk scenario: A 10 percent decline in the terms of trade could mechanically reduce real house prices by about 8 percent per the model.
- Monitoring priorities:
  - House price developments given the estimated 10–15 percent overvaluation.
  - Household balance sheet repair: saving rose to more than 10 percent of household disposable income in early 2011; household debt stabilized at about 150 percent of disposable income.
  - Potential effects on consumer confidence and consumption if house prices fall further.
- Monetary and fiscal context:
  - Underlying inflation had risen to 3 percent (annualized rate in the first half of 2011); headline inflation reached 3½ percent year-on-year in the second quarter.
  - Policy considerations include guarding against inflation expectations becoming anchored too high and assessing the need for further monetary tightening if the recovery remains on track.

### Authorities’ views (excerpt)
- The authorities broadly agreed with staff on outlook and balance of risks.
- They noted substantial divergence across sectors and uncertainty over the extent and duration of adjustment to the high real exchange rate and cautious household spending behavior.
- They acknowledged upside risk to mining investment relative to conservative official projections.

*Source: Box 1, “House Price Assessment,” IMF 2011 Article IV Report — Australia (content as provided).*

### 16.      Staff commended the authorities’

### _cr11300 - 16.      Staff commended the authorities’

### Fiscal consolidation and macroeconomic policy stance
- Planned consolidation: adjustment of about 3½ percent of GDP in the Commonwealth’s cash balance over the next two years.
- Immediate relief and rebuilding support: Over six years, around $A 6½ billion (or about 0.5 percent of GDP) is being provided.
- Staff advice if growth strengthens: save higher-than-expected tax revenue to avoid overheating and take pressure off the exchange rate.
- Downside preparedness:
  - Commonwealth government net debt: 6 percent of GDP.
  - Fiscal space: capacity to delay return to surplus and, if needed, take temporary discretionary measures.

### Authorities’ views on monetary and fiscal policy
- Reserve Bank of Australia (RBA) concerns:
  - Remained concerned about the medium-term outlook for inflation.
  - Noted that monetary policy was exerting a degree of restraint, including through the exchange rate.
  - In August the Board considered further policy tightening but judged it prudent to maintain the current setting given acute global financial market uncertainty.
  - Agreed there is considerable policy space to react to a downside scenario.
- Fiscal policy:
  - Authorities reiterated commitment to fiscal consolidation.
  - Budget forecasts a return to surplus in 2012–13 despite natural disaster impacts.
  - Emphasis on expenditure control and faster pace of consolidation than in previous episodes.
  - Authorities agreed fiscal position is strong enough to accommodate a sharp downturn in global growth.

### How to make the most of the mining boom — overview
- Mining boom expected to be long lasting given emerging Asia prospects, but subject to bumps.
- Key challenge: facilitate movement of resources to mining and related services to raise household incomes while containing economy-wide wage pressures.
- Mining’s greater importance may amplify the business cycle and increase exposure to commodity price swings.
- Reforms should enhance economy-wide flexibility to adjust to structural changes.

### A. Medium-Term Fiscal Policy — findings and recommendations
- Government fiscal strategy envisages three pillars:
  - Achieving budget surpluses, on average, over the medium term.
  - Keeping taxation as a share of GDP below the 2007–08 level on average (23½ percent of GDP).
  - Improving the government’s net financial worth over the medium term.
- Spending rule: while the economy is growing at or above trend, real spending growth, on average, will be capped at 2 percent annually until surpluses are at least 1 percent of GDP.
- Staff recommendation: target a budget surplus of more than 1 percent of GDP, on average, for the period beyond 2013/14 while the mining boom continues to support growth.
- Rationale for larger buffers:
  - Larger buffers provide greater scope to spend during a downturn to support income and jobs.
  - Lack of policy reaction scope in other countries implies a global downturn could have a sizable impact on Australia, implying need for larger buffers than in the past.
  - Strengthening the Commonwealth balance sheet should help contain economy-wide debt-servicing costs given likely upward pressure on global interest rates from sizable sovereign borrowing by other advanced economies.
- Automatic stabilizers: allow to operate fully in both directions.
  - Run sizable surpluses during upswings to avoid overheating; surpluses should be larger than in past upswings when they were limited to about 1¾ percent of GDP.
  - In downturns, sizable but temporary deficits would be appropriate.
- Staff estimates on a severe terms-of-trade shock:
  - A permanent fall in the terms of trade of 30 percent could reduce nominal GDP by 6 percent relative to the baseline (assuming that the exchange rate depreciates by 15 percent) and worsen the budget balance by 2 percent of GDP.
- Long-term pressures: stronger fiscal consolidation would help deal with aging and rising health care costs; staff welcomed reforms to improve coordination and efficiency in the health care sector and development of nationally consistent performance indicators for patient care.
- Institutional recommendations:
  - Support for establishment of a Parliamentary Budget Office.
  - Aim to increase the share of expenditure covered in the annual budget process to enhance the quality of spending decisions.

### Authorities’ views on medium-term fiscal policy
- Authorities agreed on the need to improve the fiscal position over the medium term.
- Noted budget forecast to return to surplus in 2012–13 and commitment to limit real spending growth to 2 percent a year on average until surpluses reach at least 1 percent of GDP.
- Considered that revenue improvements from the mining boom could not be expected to contribute to building surpluses at the same rate as previous occasions given already very high commodity prices.
- If revenues surprise on the upside, they would allow these improvements to flow through to improve the budget position, consistent with fiscal strategy.
- Observed trade-off: larger buffers limit scope for reducing taxes and thereby addressing associated deadweight losses.

### B. Tax and Structural Reforms — findings and recommendations
- Labor market and productivity:
  - Labor force participation has risen; mining boom increases labor demand.
  - Meeting demand requires raising labor supply and facilitating movement of labor across industries and regions.
  - Productivity growth has slowed over the past decade; elevated real exchange rate pressures nonmining tradable sector to improve efficiency.
- Tax review (May 2010) recommendations welcomed; progress noted on:
  - Reducing the company tax rate.
  - Taxing some mineral resource rents.
  - Reducing effective marginal tax rates for low-income earners.
  - Reducing complexity of the tax system.
- Carbon pricing support:
  - Staff supported proposed introduction of a carbon price as a transition to a permits trading system to mitigate greenhouse gas emissions.
  - Part of revenue used to increase the tax-free threshold to $A 18,200, which should boost labor force participation and relieve an extra 1 million Australians from the need to lodge an income tax return.
- Staff recommended continued tax reform priorities:
  - Remove inefficient taxes such as state stamp duties (including on home sales that discourage worker mobility) and insurance taxes.
  - Improve work incentives by further reducing effective marginal tax rates.
  - Encourage investment through business tax reforms.
  - Options to replace lost revenue include more reliance on a consumption-based tax, reforming land taxes, and broadening the minerals resource rent tax beyond coal and iron ore.
- Structural reforms welcomed:
  - Steps to raise labor participation and invest in skills training.
  - 2011/12 budget measures to increase labor supply: reducing marginal tax rates for single parents, phasing out tax breaks for dependent spouses under forty years old, increasing childcare support, expanding work requirements and wage subsidies for disability beneficiaries and the long-term unemployed, and allowing pensioners to work more hours without losing income support.
  - Vocational training expansion; opportunity to advance reforms in education, infrastructure, and harmonization of business regulations.
  - Recommendation that government resist pressures to prop up declining industries.

### Authorities’ views on tax and structural reforms
- Authorities reported implementation of many tax and structural reforms:
  - Tripling the tax-free threshold from $A 6,000 to $A 18,200.
  - Reducing income support payment withdrawal rates and increasing income support free areas.
  - Cutting company tax and providing tax relief and simplification for small business.
  - Measures to reduce complexity: higher tax-free threshold, optional standard personal tax deductions, simpler depreciation for small business.
- Government opposed to raising consumption taxes.
- Tax reforms intended to capture better returns from nonrenewable resources and reinvest in business tax cuts, infrastructure, and superannuation savings.

### Carbon pricing and Emissions Trading Scheme (Box 3) — key details
- Timing and target:
  - Australia plans to introduce a price on carbon in July 2012.
  - Emissions Trading Scheme (ETS) to progressively reduce CO2 and other greenhouse gases to at least 5 percent below year 2000 levels by 2020.
- Coverage and mechanics:
  - Around 500 large emitting companies required to purchase and surrender a permit for each metric ton of emissions produced.
  - Initially the permit price fixed at $A 23 per metric ton of CO2 equivalent; after July 2015 price determined by market trading.
  - Permits allocated for free to emissions-intensive and trade-exposed industries and electricity generators to help transition.
  - Emissions from fuel used in light passenger-vehicles are not covered; fuel used in aviation, off-road, and by some businesses will be effectively priced through the fuel excise system.
- Fiscal and inflationary impacts:
  - Australian Treasury estimates sale of permits and application of a carbon price will raise receipts of $A 18.2 billion over the three years to 2014/15 (about 0.3 percent of annual GDP on average for the three years).
  - Treasury modeling shows the scheme would increase the Consumer Price Index by about 0.7 of a percentage point in late 2012.
  - Low- and middle-income households compensated via income tax cuts and transfer payments; tax-free threshold increased and welfare beneficiaries assisted.
  - Overall compensation exceeds revenue; Australian Treasury projects an increase in the cash budget deficit of about $A 4.1 billion for the four years to 2014/15, which is less than about 0.1 percent of annual GDP (on average for the four years).

### Financial sector stability
- Banks demonstrated resilience during the global crisis due to sound regulation and supervision, often tighter than minimum international standards (e.g., higher loss-given-default assumptions) and proactive supervision.
- Council of Financial Regulators played a key role in coordinating crisis response.
- Financial Claims Scheme:
  - Government confirmed the Financial Claims Scheme will be a permanent feature.
  - Current deposit guarantee cap: $A 1 million.
  - Cap scheduled to be reduced to $A 250,000 in February 2012, which will still cover around 99 percent of deposit accounts in full.

*Source: 2011 ARTICLE IV REPORT AUSTRALIA, _cr11300 - 16.      Staff commended the authorities’.*

### 33.      Banks have remained sound. Bank

### _cr11300 - 33.      Banks have remained sound. Bank

### Banking soundness and performance
- Bank profits have recovered and the return on equity for the major banks is now around pre-crisis levels.
- Capital adequacy has improved, driven by increases in capital and declines in risk-weighted assets.
- Common equity as a share of tangible assets has risen to nearly 5 percent for the four large banks.
- The ratio of nonperforming loans to total assets has decreased slightly from a peak of 1.7 percent in March 2010.
- Loans-to-deposits ratio has fallen by more than 10 percentage points since early 2007 to less than 120 percent in mid-2011.
- Share of funding from short-term debt (original maturity basis) has fallen to just over 20 percent.

### Challenges, concentration, and household debt
- Household debt remains high at 150 percent of disposable income.
- Concentration: the assets of the four large banks now comprise about three-quarters (about 75 percent) of total bank assets.
- The four large banks account for more than 80 percent of mortgage lending.
- The assets of the four large banks comprise about 180 percent of GDP.
- The four major banks’ subsidiaries and branches control 90 percent of the assets of New Zealand’s banking sector.
- Recent government measures to encourage competition included removal of exit fees on bank mortgages, contributing to increased mortgage refinancing.

### Regulatory framework, APRA actions, and Basel III implementation
- APRA proposed early implementation of Basel III:
  - minimum 4.5 percent Common Equity Tier 1 ratio from January 2013;
  - 6 percent Tier 1 capital ratio from January 2013;
  - capital conservation buffer of 2.5 percent from January 2016.
- APRA will maintain its current conservative requirements for determining risk-weighted assets.
- Staff welcomed APRA’s sound supervisory and regulatory approach but noted the need to ensure APRA’s capacity keeps pace with emerging risks and evolving international norms.
- Authorities consider their proposed Basel III minimum capital requirements stronger than the global minimum.

### Stress testing, contingency planning, and systemic importance
- Staff supported more comprehensive stress tests (beyond 2009/10), including tests incorporating a disruption to funding markets.
- Staff welcomed progress on contingency planning for liquidity and solvency at systemically important banks, including New Zealand subsidiaries.
- Trans-Tasman crisis management exercise with New Zealand to help identify challenges.
- Staff encouraged authorities to consider higher capital requirements on banks that are systemically important in the domestic market, given perception that large market share implies they are too big to fail and pose potential fiscal risk.
- Analysis of appropriate capital requirements could be undertaken over the next year (including using stress tests) in the context of Financial Stability Board discussions and the 2012 update of the Financial Sector Stability Assessment with the IMF.
- The 2009/10 stress test scenario (reference) assumed:
  - a global economic downturn resulting in a 3 percent contraction of real GDP in Australia in the first year followed by a V-shaped recovery;
  - rise in the unemployment rate to 11 percent;
  - fall in house prices of 25 percent;
  - fall in commercial property prices of 45 percent;
  - results suggested none of the banks would have breached the 4 percent minimum Tier 1 capital requirement of the Basel II framework.

### Macroprudential oversight
- The Council of Financial Regulators (CFR) comprises representatives from the RBA, APRA, the Treasury, and the Australian Securities and Investments Commission.
- CFR has maintained a focus on systemic risks.
- Example: in 2004 APRA raised capital requirements on some types of mortgage lending in response to weakened credit standards.
- Authorities see a potential role for a countercyclical buffer, in line with international proposals.

### Funding structure, external borrowing, and recommended measures
- Financial institutions’ external borrowing fell from a peak of 70 percent of GDP in 2008 to less than 60 percent of GDP in mid-2011.
- Short-term debt (residual maturity basis, mostly issued by banks) remains sizable at 42 percent of GDP.
- Funding from European banks was just over US$300 billion at end 2010, about ¼ of gross external debt.
- Staff recommended authorities encourage banks to reduce further exposure to short-term external debt.
- APRA could consider merits of introducing measures along the lines of the Net Stable Funding Ratio (NSFR) requirement ahead of the 2018 schedule discussed by the Basel Committee.
- Proposed legislation to allow Australian banks to issue covered bonds would help increase the share of long-term funding.
- Staff estimates suggest Net Stable Funding Ratio (NSFR) has improved for three of the four large banks over the past three years; by end 2010, staff estimates show Australian banks were at or just below the average level for a selection of large banks.

### Exchange rate, external vulnerability, and current account projections
- Net external liabilities fell from a peak of 62 percent of GDP in 2009 to about 57 percent of GDP in mid-2011.
- Staff project net external liabilities to increase to 68 percent of GDP in 2016.
- Staff project the current account to widen to 6⅓ percent of GDP by 2016.
- The projected widening of the current account deficit is driven in large part by investment to increase export capacity (e.g., investment in large LNG projects expected to treble to 3 percent of GDP in 2013–14 and boost total exports by 3–4 percent).
- Much mining investment expected to be financed through foreign direct investment, retained earnings, and long-term debt.
- Staff analysis suggests the national saving rate would face downward pressure from demographics; recommended actions include fiscal consolidation to raise public saving and tax reform to remove distortions to saving and investment decisions.
- Planned gradual increase in compulsory superannuation contribution paid by employers from 9 percent to 12 percent by 2019/20 is expected to help raise national saving.
- Flexible exchange rate provides buffer to funding shocks: depreciation would stimulate tradables sector and reduce foreign exchange funding required by banks.
- 44 percent of external debt is denominated in Australian dollars and much of remaining debt is hedged.
- Staff analysis suggests the Australian dollar is overvalued by 10–20 percent from a medium-term perspective, though estimates are subject to substantial uncertainty.
  - Macroeconomic balance (MB) approach implies overvaluation of about 11 percent (current account deficit norm at 4.6 percent of GDP).
  - Equilibrium real exchange rate (ERER) approach suggests overvaluation of 16.4 percent (August 2011).
  - External sustainability (ES) approach implies overvaluation of 19.4 percent assuming NFL stabilizes at 55 percent of GDP.
- Consensus forecasts show a depreciation of 6½ percent against the U.S. dollar over the next two years.

### Authorities’ views (as reported)
- Authorities agreed on importance of continued rigorous supervision and ongoing stress-testing; emphasized intensive supervision and close cooperation between regulators.
- Authorities view it as premature to extend additional loss absorbency requirements to Australian banks pending international standard-setters’ decisions.
- Authorities consider it premature to commit to a specific implementation timetable for the Basel III Net Stable Funding Requirement while it remains under development and subject to an extended observation period commencing in 2012.
- Authorities noted banks had already reduced exposure to short-term borrowing and are well positioned to weather future turbulence in offshore funding; they highlighted that major mining investment projects are often funded by multinationals with strong balance sheets and low debt/equity ratios.

*Source: 2011 ARTICLE IV REPORT — AUSTRALIA (extracted section on banking and external vulnerability).*

### 48.      Although recent global market

### _cr11300 - 48.      Although recent global market

### Economic outlook and risks
- Strong commodity demand from emerging Asia underpins Australia’s favorable economic prospects.
- The mining boom is expected to be long-lasting but may produce large swings in commodity demand requiring a macroeconomic policy response.
- Risks to staff’s growth projections are tilted to the downside because of concerns about the global outlook.
- A fall in house prices could hurt consumer confidence.
- Upside risk: the mining boom may have a larger-than-expected impact on growth and inflation.

### Monetary policy and inflation
- Macroeconomic stimulus is being appropriately removed as the recovery continues.
- The RBA has paced monetary policy tightening well, which has helped anchor medium-term inflation expectations.
- Inflation pressures are emerging as capacity constraints are being reached.
- If the recovery remains on track, a further tightening of monetary policy is likely to be required to contain inflation.

### Fiscal policy stance and buffers
- The government’s commitment to return the Commonwealth budget back to surplus in 2012/13 is viewed as welcome; it will strengthen fiscal buffers and should take some pressure off monetary policy and the exchange rate.
- Fiscal space exists to delay the return to surplus and, if needed, to take temporary discretionary measures, given the low level of government net debt.
- Over the medium term, the government should target a budget surplus of more than 1 percent of GDP, on average, for the period beyond 2013/14 while the mining boom supports growth.
- A reduction in government debt and a build up of public funds would give fiscal policy flexibility to respond to larger shocks and long-term pressures from aging and rising health care costs.

### Policy space and crisis response
- If global financial markets become severely disrupted or world growth falters:
  - The free-floating exchange rate provides an important buffer to external shocks.
  - The RBA has ample scope to cut policy interest rates.
  - There is fiscal space to delay the return to a surplus and to take temporary discretionary measures.

### Tax and structural reforms
- Reforms should build a more flexible economy that encourages labor force participation and facilitates movement of labor and capital across industries and regions.
- Eliminate inefficient taxes that discourage mobility, explicitly including state stamp duties on house sales.
- Further steps are needed to reduce effective marginal income tax rates to improve work incentives.
- Business tax reform would encourage investment.
- Options to raise revenue to fund reforms include greater reliance on consumption and land taxes, and a broadening of the proposed minerals resource rent tax.
- Other reforms in education, infrastructure, and business regulation would enhance capacity to adjust to structural changes.

### Financial sector supervision and stability
- Banks remain sound, but authorities should continue to emphasize intensive supervision as banks may be tempted to take on riskier strategies in an environment of structurally lower credit growth.
- Support for APRA’s plans to undertake stress tests incorporating disruptions to funding markets.
- Authorities should consider the merits of higher capital requirements in the context of discussions in the Financial Stability Board.
- Encourage banks to reduce further their short-term external debt.

### External balance and exchange rate
- The projected widening of the current account deficit presents some risks but should be manageable as it largely reflects increased private investment in the export sector.
- A projected decline in national saving also contributes to the widening of the deficit, underlining the need for fiscal consolidation.
- The exchange rate is overvalued by 10–20 percent, from a medium-term perspective.
- Part of the overvaluation may dissipate over time with the eventual tightening of policy rates by major central banks.

*Source: IMF staff assessment in the cited chapter.*

### 56.      Staff recommends that the next

### _cr11300 - 56.      Staff recommends that the next

### Recovery driven by commodities
- Australia’s recovery is on a solid footing, driven by exceptionally strong terms of trade and growing links to Asia, especially China, where demand for commodities is strong.
- Demand for Australia’s two key commodity exports is driving price movements:
  - Commodity Prices (U.S. dollar per ton): shown for Thermal coal spot price and Iron ore spot price (series Sep-08 through Sep-11).
- Private investment is picking up; capital expenditure (in billions of Australian dollars, SA) shows rising Private and Public components (2004–2011).
- Companies in the mining sector are enjoying an increase in profits:
  - Business Profits (In percent of GDP): Mining and Nonmining series (2003Q1–2011Q1).

### Trade and balance of payments
- The resources sector accounts for a rising share of exports (Composition of Exports in billions of Australian dollars; series 2003–2011H1).
- Mineral export volumes slowed in early 2011 due to the impact of natural disasters on coal and iron ore exports:
  - Exports of Coal and Iron Ore (In millions of tons): series Jul-08 to Jun-11.
- Imports, especially of capital goods, have rebounded since the crisis (Imports of Goods, in real terms, Y/Y percent change).
- The current account deficit has narrowed in recent years, with Net income and Transfers and Trade in goods and services contributing to the Current Account Balance (In percent of GDP; 2002–2011H1).
- Debt and equity inflows have slowed (Net Equity Flows, Net Debt Flows, Net Capital Inflows as percent of GDP; 2002–2011H1).

### Rising inflationary pressures
- Underlying inflation has bottomed out with little spare capacity left:
  - Underlying Inflation and Output Gap (Trimmed mean (y/y), Weighted median (y/y), Output gap % of GDP; 2006–2011).
- Wage growth is picking up while productivity (output per hour worked, market sector) trends are shown:
  - Private Sector Wages (Percent change, y/y) and Productivity* (Trend Productivity Growth).
- Producer price inflation is rising across stages (Final, Intermediate, Preliminary; y/y).
- Labor markets are tightening: Indicators of Resource Pressure show Capacity Utilization and Unemployment rate (2006–2011).
- Headline and expected inflation rose; CPI Inflation (Headline CPI, Consumers' Expectations, Market Economists' Expectations; Percent change, y/y).
- Tradables and nontradables inflation both increased (CPI Inflation by Tradables and Nontradables; Percent change, y/y; 2006–2011).

### Financial market indicators
- Stock market indices have fallen in recent months (AS30 Stock Index and AS45 Resources Index; Sep-09 to Sep-11).
- Bank credit default swap spreads have risen, in line with the US and Europe (CDS Spreads, Five-year; average of four largest banks; Sep-09 to Sep-11).
- Exchange settlement balances at the RBA remain much lower than in early 2009 (In millions of Australian dollars; Mar-08 to Sep-11).
- The overnight index swap market expects a cut in the policy rate over the next year (3-month OIS rate; Mkt-Exp rate in 1 yr derived from OIS curve; Overnight cash rate; Sep-09 to Sep-11).
- Australian Commonwealth bond yields have fallen in recent months across maturities (2 YR, 5 YR, 10 YR; Sep-09 to Sep-11).
- Australian Commonwealth bond spreads have narrowed since the end of last year relative to U.S. yields (AUS 5Y Spread, AUS 10Y Spread; Sep-09 to Sep-11).

### Monetary stance and lending conditions
- The policy rate is close to that implied by a Taylor-type rule; Cash Rate and Policy Rate Implied by Taylor-Type Rule series (2005–2011).
- The real policy rate stabilized below its historical average (Real 1-year OIS rate and Real policy rate based on trimmed-mean CPI inflation).
- Higher bank funding costs (relative to the policy rate) have pushed up lending rates (Funding Cost and Lending Rate spread to Cash Rate; 2006–2011).
- Mortgage rates have risen with the policy rate (Housing loans 3-year fixed, Housing loans standard variable, Cash rate; 2005–2011).
- Lending rates moved above historical averages; real lending rates have increased (Real Lending Interest Rate based on trimmed-mean CPI inflation, year-on-year).

### Path to fiscal consolidation
- Three consecutive years of fiscal consolidation are underway.
- Budget is expected to return to surplus in 2012/13, mainly through restraint in expenditure growth and fiscal drag.
- State deficits are projected to decrease in the next few years.
- Budget surpluses are projected to increase gradually to about 1 percent of GDP over the medium term.
- Net debt is projected to peak at about 7 percent in 2011/12.
- Commonwealth Government Fiscal Impulse (Impulse using underlying cash balance and structural balance on a cash basis) shows tighter policy 2006/07–2016/17.
- Commonwealth Revenue and Expenditure: Real government gross operating expenditure growth, real total government expenditure growth, and revenue in percent of GDP (2006/07–2016/17).
- State/Local Governments fiscal balance and net debt shown as percent of GDP (2006/07–2013/14).
- Authorities and IMF projections of Underlying Cash Balance and Net Debt for the Commonwealth government presented for 1996/97–2020/21.

### Comparison of fiscal outlook with peers
- After a period of high real expenditure growth (Change in Real Expenditure Per Capita, 2005-10; general government), consolidation is now faster than in most other advanced countries:
  - Change in Structural Balance, 2010-2016 (In percent of GDP; general government).
  - Change in Real Expenditure, 2010-15 (In percent; general government).
  - Change in Net Debt, 2010-16 (In percent of GDP; general government).
- General government gross debt is projected to remain among the lowest in advanced economies (General Government Gross Debt, 2016, In percent of GDP).

### Banking system developments
- Banks’ assets consist predominantly of credit, with mortgage loans accounting for over half of total lending (Banks' Lending Structure in billions of Australian dollars; Jun-05 to Jun-11).
- Banks’ liabilities are mainly domestic deposits but wholesale funding remains sizable (Banks' Liabilities Composition; Mar-2006 to Mar-2011).
- Banks’ Tier 1 capital and Total capital (Capital Adequacy Ratios, percent) have increased (2004–2011).
- Profitability remains healthy: ROA, Net Interest Margin, ROE (After tax; percent).
- Impaired assets are low by international standards and appear to have peaked:
  - Impaired assets to total assets and Specific provisions to impaired assets (2001–2011).
- With deposits growing faster than credit, banks’ loans to deposit ratio fell (Loans to Deposits Ratio, percent; 2005–2011).

### Household vulnerabilities
- Household debt remains high (Household Debt to Disposable Income, percent; series 1998–2010 across countries).
- Debt-servicing costs declined during the global crisis (Household Interest Payments to Disposable Income, percent; 1998–2010).
- Household net wealth has fallen since the crisis; financial wealth accounts for a relatively low share while housing wealth accounts for a large share:
  - Net Wealth to Disposable Income; Financial Wealth to Disposable Income; Housing Wealth to Disposable Income (1998–2010).
- Real House Prices show a large run-up (Real House Prices, 2000 = 100; series 2000–2011 for multiple countries).
- These features leave Australian households vulnerable to a possible unwinding of the large run-up in house prices.

### External vulnerability
- Australia’s net foreign liabilities are relatively high (Net Foreign Investment Position, 2010, In percent of GDP).
- The current account deficit is forecast to be larger than most advanced countries by 2016 (Current Account Balance, 2016, In percent of GDP).
- Gross external debt is lower than in most other advanced countries (Total External Debt, 2010, In percent of GDP).
- Short-term debt declined from its precrisis peak (Total Short-Term External Debt, Jun-05 to Jun-11; residual maturity basis for Australia).
- Short-term gross external debt as percent of GDP and bank gross external debt (2010) are lower than many peers.
- Net external liabilities, net external debt, and gross external debt series (2006–2016) are provided in U.S. dollar and percent of GDP tables.

### Key macroeconomic indicators and projections (selected exact figures)
- Nominal GDP (2010): $A 1,346 billion
- Quota (in millions): SDR 3,236.40
- GDP per capita (2010): US$55,332
- Population (2010) December: 22.5 million
- Unemployment rate (August 2011): 5.3 percent
- Main exports: Metal ores and minerals; tourism, coal and coke (fuel)
- ODA (2009-10): 0.3 percent of GDP
- Output and demand (percent change):
  - Real GDP: 2008: 2.6; 2009: 1.4; 2010: 2.7; 2011: 1.8; 2012: 3.3
  - Total domestic demand: 2008: 3.5; 2009: -0.7; 2010: 4.2; 2011: 4.4; 2012: 3.9
  - Private consumption: 2008: 1.9; 2009: 1.0; 2010: 2.8; 2011: 3.1; 2012: 2.3
  - Total investment: 2008: 7.9; 2009: -3.2; 2010: 5.8; 2011: 5.6; 2012: 9.0
  - Net exports (contribution to growth): 2008: -1.5; 2009: 2.7; 2010: -1.6; 2011: -2.8; 2012: -0.7
- Inflation and unemployment:
  - CPI inflation: 2008: 4.4; 2009: 1.8; 2010: 2.8; 2011: 3.5; 2012: 3.3
  - Unemployment rate: 2008: 4.3; 2009: 5.6; 2010: 5.2; 2011: 5.0; 2012: 4.8
- Fiscal indicators (cash basis, percent of GDP):
  - Receipts: 2008: 24.6; 2009: 23.0; 2010: 22.0; 2011: 21.6; 2012: 23.0
  - Payments: 2008: 22.9; 2009: 25.2; 2010: 26.2; 2011: 25.1; 2012: 24.8
  - Underlying cash balance: 2008: 1.7; 2009: -2.2; 2010: -4.3; 2011: -3.5; 2012: -1.8
  - Net debt: 2008: -3.8; 2009: -1.3; 2010: 3.3; 2011: 5.9; 2012: 7.5
- Balance of payments (percent of GDP): Current account: 2008: -4.5; 2009: -4.2; 2010: -2.7; 2011: -2.2; 2012: -4.7
- Terms of trade (percent change): 2008: 13.0; 2009: -9.9; 2010: 16.3; 2011: 13.6; 2012: -6.8
- External assets and liabilities (percent of GDP): Net external liabilities: 2008: 56.9; 2009: 61.9; 2010: 57.0; 2011: 55.6; 2012: 57.9

### Policy recommendation (explicit)
- Staff recommends that the next Article IV consultation be held on the standard 12-month cycle.

*Source: 2011 ARTICLE IV REPORT AUSTRALIA, INTERNATIONAL MONETARY FUND*

### Appendix I. Australia: Financial Sector Assessment Program (FSAP):

### Appendix I. Australia: Financial Sector Assessment Program (FSAP): Key Recommendations of the 2006 FSAP and Update on the Progress of Implementation

### Banking
- Key recommendation: Continue to ensure strong risk management practices, including through regular stress testing.
- Progress of implementation:
  - The Basel II framework has been implemented since January 2008.
  - The four major banks (ANZ, Commonwealth Bank of Australia, Westpac, and National Australia Bank) and Macquarie Bank approved to adopt internal models for credit and operational risk.
  - Stress testing is regularly carried out by banks as part of their Internal Capital Adequacy Assessment Process.
  - APRA thoroughly assesses banks’ risk management practices and integrates these assessments into its supervisory stance.
  - Credit quality in home and commercial lending, and liquidity management, have been at the forefront of supervision activity.
  - APRA has conducted periodic stress tests of the major authorized deposit-taking institutions (ADIs), with the most recent one being in 2010.
  - These stress tests were undertaken to assess the resilience of the banks to a severe economic downturn and are part of an ongoing stress testing program.

### Failure Resolution and Crisis Management
- Key recommendation: Continue to develop a formal process to manage the failure of individual institutions and more widespread crises.
- Progress of implementation:
  - In October 2008, the government introduced a Financial Claims Scheme (FCS), which provided protection for depositors of up to $A 1 million in the event that an ADI failed.
  - The cap will be reduced to $A 250,000 per depositor, per institution, from February 2012 but will still cover 99 percent of deposit accounts in full.
  - The FCS also protects policyholders of failed general insurers.
  - The Council of Financial Regulators signed an MoU on financial distress management in 2008, formalizing what was already established in practice.
  - The Council developed comprehensive guidance for the resolution of a distressed ADI, covering a range of resolution options; this guidance is routinely updated to reflect developments (e.g., lessons from a 2009 crisis management simulation exercise and 2010 legislation to enhance APRA’s crisis management powers in relation to distressed banks and general insurers).
  - For cross-border resolution, the Council agencies and the Reserve Bank of New Zealand and the New Zealand Treasury have signed a Memorandum of Cooperation and developed guidance on managing the distress of a trans-Tasman banking group.

### Supervisory Capacity
- Key recommendation: Ensure that the supervisory agencies have adequate resources and flexibility.
- Progress of implementation:
  - In the 2007/08 Budget, APRA received additional funding over a four-year period to improve its staff capabilities.
  - In October 2008, the government provided additional funding to APRA of $A 45.5 million over four years to manage issues associated with the global financial crisis.
  - The government continues to monitor APRA’s funding to ensure it remains adequately resourced.
  - The government enhanced APRA’s independence by removing the requirement to obtain ministerial consent before taking administrative actions.
  - The Australian Securities and Investments Commission (ASIC) received funding of $A 420.2 million in 2011–12 including additional funding of $A 28.8 million to support ongoing GFC-related work and to support ASIC’s operations.

### Cooperation with New Zealand Regulators
- Key recommendation: Build on the progress made within the Trans-Tasman Council on Banking Supervision to improve coordination in crisis management.
- Progress of implementation:
  - Legislative changes formalizing a requirement on regulators in the two countries to be alert to each other’s interests in times of stress came into force in both countries in December 2006.
  - The Trans-Tasman Banking Council now focuses more on practical aspects of coordination in crisis management, with a protocol agreed aiming to establish procedures to jointly deal with a regional banking crisis.

### Insurance
- Key recommendation: Push ahead with Stage II reforms (e.g., capital management, reinsurance documentation, corporate governance standards, and disclosure requirements).
- Progress of implementation:
  - The Stage II reforms have all been finalized and implemented.
  - APRA has been consulting on a comprehensive update of its capital standards for general insurance and life insurance, aimed at making the standards more risk-sensitive and improving their alignment across regulated industries.
  - From July 1, 2008, all Direct Offshore Foreign Insurers operating in Australia have had to be authorized by APRA and subject to Australia’s prudential regime.

### AML/CFT
- Key recommendation: Give high priority to make the appropriate legislative and operational arrangements in the AML/CFT area.
- Progress of implementation:
  - The AML/CTF Act, enacted in December 2006, established a regulatory regime to detect and deter money laundering and terrorism financing.
  - The AML/CTF Act represents the first tranche of reforms and covers the activities of financial service providers, gambling services, bullion dealers and remittance dealers.
  - The authorities report that the implementation is now complete.
  - The second tranche of legislative and regulatory reforms, intended to capture a range of non-financial businesses and professionals, is under consideration.
  - Legislation has been implemented facilitating information exchange between the Australian Transaction Reports and Analysis Centre (AUSTRAC) and APRA.
  - Information sharing arrangements at the executive and operational levels are now in place.

*Source: IMF staff.*

### ANNEX II. AUSTRALIA: STATISTICAL ISSUES

### ANNEX II. AUSTRALIA: STATISTICAL ISSUES

### Data provision and statistical initiatives
- Australia subscribed to the Special Data Dissemination Standard (SDDS) and its metadata are posted on the Fund’s Dissemination Standards Bulletin Board (DSBB).
- The Australian Bureau of Statistics (ABS) has taken initiatives to improve data quality, including:
  - including the prices of financial services in the CPI;
  - developing new measures of labor underutilization.
- In September 2006, STA met with ABS, the Australian Prudential Regulation Authority, and the Reserve Bank of Australia to encourage reporting of monetary data using standardized report forms (SRFs) introduced in October 2004. The SRFs provide accounting data broken down by instrument, sector, and currency.
- A STA mission in March 2010 prepared the Data Module of the Report on the Observance of Standards and Codes (ROSC) assessment.

### Table of Common Indicators Required for Surveillance (As of August 25, 2011)
- Exchange Rates
  - Date of Latest Observation: 8/25/11
  - Date Received: 8/25/11
  - Frequency of Data: D
  - Frequency of Reporting: D
  - Frequency of Publication: D
- International Reserve Assets and Reserve Liabilities of the Monetary Authorities
  - Date of Latest Observation: 07/10
  - Date Received: 08/8/11
  - Frequency of Data: M
  - Frequency of Reporting: M
  - Frequency of Publication: M
- Reserve/Base Money
  - Date of Latest Observation: 07/11
  - Date Received: 08/30/11
  - Frequency of Data: M
  - Frequency of Reporting: M
  - Frequency of Publication: M
- Broad Money
  - Date of Latest Observation: 07/11
  - Date Received: 08/30/11
  - Frequency of Data: M
  - Frequency of Reporting: M
  - Frequency of Publication: M
- Central Bank Balance Sheet
  - Date of Latest Observation: 08/17/11
  - Date Received: 08/19/11
  - Frequency of Data: W
  - Frequency of Reporting: W
  - Frequency of Publication: W
- Consolidated Balance Sheet of the Banking System
  - Date of Latest Observation: 07/11
  - Date Received: 08/30/11
  - Frequency of Data: M
  - Frequency of Reporting: M
  - Frequency of Publication: M
- Interest Rates
  - Date of Latest Observation: 8/25/11
  - Date Received: 8/25/11
  - Frequency of Data: D
  - Frequency of Reporting: D
  - Frequency of Publication: D
- Consumer Price Index
  - Date of Latest Observation: Q2 2011
  - Date Received: 5/08/2011
  - Frequency of Data: Q
  - Frequency of Reporting: Q
  - Frequency of Publication: Q
- Revenue, Expenditure, Balance and Composition of Financing – General Government
  - Date of Latest Observation: 06/11
  - Date Received: 9/27/10
  - Frequency of Data: A
  - Frequency of Reporting: A
  - Frequency of Publication: A
- Revenue, Expenditure, Balance and Composition of Financing – Central Government
  - Date of Latest Observation: 05/11
  - Date Received: 07/22/11
  - Frequency of Data: M
  - Frequency of Reporting: M
  - Frequency of Publication: M
- External Current Account Balance
  - Date of Latest Observation: Q2 2011
  - Date Received: 08/31/11
  - Frequency of Data: Q
  - Frequency of Reporting: Q
  - Frequency of Publication: Q
- Exports and Imports of Goods and Services
  - Date of Latest Observation: 07/11
  - Date Received: 08/30/11
  - Frequency of Data: M
  - Frequency of Reporting: M
  - Frequency of Publication: M
- GDP/GNP
  - Date of Latest Observation: Q2 2011
  - Date Received: 08/31/11
  - Frequency of Data: Q
  - Frequency of Reporting: Q
  - Frequency of Publication: Q
- Gross External Debt
  - Date of Latest Observation: Q1 2011
  - Date Received: 05/31/11
  - Frequency of Data: Q
  - Frequency of Reporting: Q
  - Frequency of Publication: Q
- International Investment Position
  - Date of Latest Observation: Q2 2011
  - Date Received: 08/31/11
  - Frequency of Data: Q
  - Frequency of Reporting: Q
  - Frequency of Publication: Q

### Public Information Notice — Executive Board Conclusions (October 5, 2011)
- Background and recent performance
  - Australia avoided recession during the global financial crisis, aided by a strong initial position, supportive macro policy, a healthy banking system, a flexible exchange rate, and robust demand for commodities from Asia, especially China.
  - Recovery driven by a mining boom. Real GDP growth picked up to 2¾ percent in 2010.
  - Natural disasters (cyclones and floods) in early 2011 reduced output, especially coal and iron ore (which comprise about ⅓ of Australia’s exports). Real GDP growth rebounded in Q2 2011 but coal export volumes had not fully recovered.
  - The terms of trade rise since 2002 increased national income and improved the current account balance to about 2½ percent of GDP in the first half of 2011. The real effective exchange rate appreciated to near the highest level since the dollar was floated in 1983.
- Policy stance and fiscal outlook
  - The Reserve Bank of Australia began raising its policy rate in late 2009; rate held at 4¾ percent since November 2010.
  - Fiscal consolidation began in 2010; natural disasters contributed to a wider-than-expected budget deficit of 3½ percent of GDP in 2010/11.
- Outlook and risks
  - Real GDP growth projected at almost 2 percent for calendar year 2011 and 3⅓ percent for 2012, supported by commodity demand and a sharp rise in private mining investment.
  - Key downside risks: global recovery stalls, Asian growth falters, disruptions in funding markets due to sovereign debt concerns. Upside risks: larger-than-expected resource investment and higher household confidence.
- Executive Directors’ views
  - Macro stimulus is being appropriately removed; RBA’s well-paced tightening has helped anchor medium-term inflation expectations.
  - Further monetary tightening could be warranted if the recovery remains on track to counter inflationary pressures from increased mining investment.
  - Welcome for government commitment to return Commonwealth budget to surplus in 2012/13.
  - In severe global adverse developments, policy is well positioned: free-floating exchange rate, scope for RBA to cut rates, and ample fiscal space given low level of government net debt.
  - Medium-term recommendation: target a budget surplus of at least 1 percent of GDP for the period beyond 2013/14; emphasize tax and structural reforms, including elimination of state stamp duties on house sales and further reduction of effective marginal income tax rates.
  - Revenue-raising options: greater reliance on consumption and land taxes, and a broadening of the proposed minerals resource rent tax.
  - Structural reforms recommended in education, infrastructure, and business regulation to enhance capacity to adjust.
  - Financial stability: banks remain sound but call for continued intensive supervision; welcome APRA plans for stress tests including funding market disruptions. Higher capital requirements and reduced short-term external debt could reinforce stability, though some Directors preferred waiting for international consensus.
  - Projected deterioration of current account balance presents risks but is largely due to increased private investment in export sector; declining national saving underscores need for fiscal consolidation.
  - IMF staff assessment: Australian dollar may be somewhat stronger than medium-term fundamentals imply; overvaluation partly cyclical and may dissipate with eventual tightening by major central banks.

### Australia: Selected Economic Indicators, 2008–12 (key figures)
- Nominal GDP (2010): $A 1,346 billion
- Quota (in millions): SDR 3,236.40
- Unemployment rate (August 2011): 5.3 percent

- Output and demand (percent change)
  - Real GDP: 2008: 2.6; 2009: 1.4; 2010: 2.7; 2011: 1.8; 2012 Proj: 3.3
  - Total domestic demand: 2008: 3.5; 2009: -0.7; 2010: 4.2; 2011: 4.4; 2012 Proj: 3.9
  - Private consumption: 2008: 1.9; 2009: 1.0; 2010: 2.8; 2011: 3.1; 2012 Proj: 2.3
  - Total investment: 2008: 7.9; 2009: -3.2; 2010: 5.8; 2011: 5.6; 2012 Proj: 9.0
  - Net exports (contribution to growth): 2008: -1.5; 2009: 2.7; 2010: -1.6; 2011: -2.8; 2012 Proj: -0.7

- Inflation and unemployment (in percent)
  - CPI inflation: 2008: 4.4; 2009: 1.8; 2010: 2.8; 2011: 3.5; 2012 Proj: 3.3
  - Unemployment rate: 2008: 4.3; 2009: 5.6; 2010: 5.2; 2011: 5.0; 2012 Proj: 4.8

- Saving and investment (in percent of GDP)
  - Gross national saving: 2008: 25.1; 2009: 23.6; 2010: 24.9; 2011: 25.7; 2012 Proj: 24.7
    - General government saving: 2008: 3.6; 2009: -0.7; 2010: -0.3; 2011: 2.3; 2012 Proj: 3.7
    - Private saving: 2008: 21.5; 2009: 24.4; 2010: 25.2; 2011: 23.4; 2012 Proj: 20.9
  - Gross capital formation: 2008: 29.5; 2009: 27.9; 2010: 27.6; 2011: 27.9; 2012 Proj: 29.3

- Fiscal indicators (cash basis, in percent of GDP)
  - Receipts: 2008: 24.6; 2009: 23.0; 2010: 22.0; 2011: 21.6; 2012 Proj: 23.0
  - Payments: 2008: 22.9; 2009: 25.2; 2010: 26.2; 2011: 25.1; 2012 Proj: 24.8
  - Underlying cash balance: 2008: 1.7; 2009: -2.2; 2010: -4.3; 2011: -3.5; 2012 Proj: -1.8
  - Fiscal balance (accrual basis): 2008: 1.8; 2009: -2.4; 2010: -4.1; 2011: -3.2; 2012 Proj: -1.7
  - Net debt: 2008: -3.8; 2009: -1.3; 2010: 3.3; 2011: 5.9; 2012 Proj: 7.5

- Money and credit (end of period)
  - Interest rate (90-day bill, in percent) 4/: 2008: 4.1; 2009: 4.2; 2010: 5.0; 2011: 5.0; 2012: ...
  - Treasury bond yield (10-year, in percent) 4/: 2008: 4.0; 2009: 5.6; 2010: 5.5; 2011: 4.8; 2012: ...
  - M3 (percent change) 4/: 2008: 14.8; 2009: 5.8; 2010: 10.3; 2011: 11.3; 2012: ...
  - Private domestic credit (percent change) 4/: 2008: 7.6; 2009: 1.1; 2010: 2.8; 2011: 3.3; 2012: ...

- Balance of payments (in percent of GDP)
  - Current account: 2008: -4.5; 2009: -4.2; 2010: -2.7; 2011: -2.2; 2012 Proj: -4.7
    - Trade balance (goods): 2008: -0.3; 2009: -0.3; 2010: 1.5; 2011: 2.2; 2012 Proj: 0.4
  - Terms of trade (percent change): 2008: 13.0; 2009: -9.9; 2010: 16.3; 2011: 13.6; 2012 Proj: -6.8

- External assets and liabilities (in percent of GDP)
  - Net external liabilities: 2008: 56.9; 2009: 61.9; 2010: 57.0; 2011: 55.6; 2012 Proj: 57.9
  - Net external debt: 2008: 55.5; 2009: 52.7; 2010: 47.9; 2011: 47.7; 2012 Proj: 49.4
  - Gross official reserves 4/: 2008: 3.8; 2009: 3.7; 2010: 3.1; 2011: 2.8; 2012: ...

- Exchange rate (period average) 4/
  - U.S. dollar/Australian dollar: 2008: 0.85; 2009: 0.79; 2010: 0.92; 2011: 1.08; 2012: ...
  - Trade-weighted index: 2008: 66.3; 2009: 63.2; 2010: 70.9; 2011: 77.7; 2012: ...
  - Real effective exchange rate 5/: 2008: 103.6; 2009: 100.7; 2010: 115.3; 2011: 123.8; 2012: ...

Sources noted in the chapter: Data provided by the Australian authorities; and IMF staff estimates and projections, including the estimated impact of the Clean Energy Future package from 2011/12.

### Statement by Mr. Christopher Y. Legg and Ms. Susan Bultitude (October 5, 2011)
- Authorities are closely monitoring deteriorating external environment and downside risks from sustained global weakness; heightened global financial volatility compounds domestic pressures from a two speed economy.
- A significant increase in household saving is constraining retail activity; non-mining related growth is forecast to be weak.
- Unemployment rose to 5.3 percent in August 2011.
- Authorities committed to preserve and optimize policy room to respond to external instability; improvements in household and banking sector balance sheets bolster resilience.
- Factors underpinning resilience: sound policy and regulatory frameworks, proactive prudential regulation, structural reform, exchange rate flexibility, and integration with fast-growing Asia.
- After floods and cyclones earlier in 2011, GDP recovered strongly.

*Source: ANNEX II. AUSTRALIA: STATISTICAL ISSUES*

### 1.2 percent, in the June quarter.

### _cr11300 - 1.2 percent, in the June quarter.

### Mining boom and proximity to emerging Asia
- Australia’s terms of trade are currently at 140 year highs.
- Mining production accounts for only around 9 percent of GDP.
- Mining investment is expected to reach record highs as a share of GDP over the next two years, rivaling that for the rest of the economy.
- The mining boom is part of a broader, long-term transformation of Asia with profound implications for global production and consumption.
- Policy challenge: maintain appropriate macroeconomic and structural settings to ensure the economy benefits fully from this transformation.

### Fiscal policy
- Authorities committed to returning the budget to surplus in 2012–13 and beyond to re-build policy buffers and make room for the mining-related investment boom.
- The 2011-12 Budget projected government net debt would peak at around 7 percent this year and decline to zero by 2019–20.
- Consolidation involves a significant adjustment effort of the order of 4 percent of GDP in the space of 2 years.
- Revenue likely to be less responsive to growth than during 2004 through 2007, partly due to growing mining sector depreciation expenses and the sector’s larger share of the economy.
- The Government’s planned Minerals Resource Rent Tax will improve the sector’s contribution to the budget.
- A Temporary Flood and Cyclone Reconstruction levy has been imposed to help offset the costs of these natural disasters.
- A significant part of the consolidation burden will fall on expenditures; the 2011–12 Budget identified savings from reforms to family benefits, income support (including participation incentives), health, education, and defense programs.
- Real growth in spending is expected to average only 1 percent over the forward estimate period.
- Existing fiscal strategy: budget surpluses on average over the medium term, taxation as a share of GDP kept below the level for 2007–08, and a commitment to improve government net financial worth over the medium term.
- Operational commitment: keep real expenditure growth below 2 percent per annum, once the budget returns to surplus and until the surpluses are at least 1 percent of GDP, while the economy is growing at or above trend.
- Authorities acknowledge staff recommendation to allow automatic stabilizers to operate fully in both directions and note arguments for building larger fiscal buffers, weighing benefits of greater insurance against cyclical risks versus costs of significantly larger surpluses.
- Staff welcomed Australia’s strong budgetary institutions and support for establishing a Parliamentary Budget Office.

### Monetary policy
- Reserve Bank of Australia (RBA) judged it prudent to maintain the current stance of monetary policy; the cash rate unchanged at 4.75 percent since November 2010.
- Board remained concerned about the medium-term outlook for inflation, while most financial indicators suggested monetary policy had been exerting a degree of restraint.
- Headline consumer price index rose 3.6 percent through the year to the June quarter 2011, of which food prices (mostly fruit and vegetables) accounted for 1.0 percent.
- Inflation is expected to fall back below 3 percent in early 2012 as the effect of temporary weather-related events reverse.

### Exchange rate and external stability
- Flexibility of the Australian dollar is key to managing the impact of the mining boom alongside global financial market instability.
- Exchange rate depreciated by around 12 percent in recent weeks following a period of sustained appreciation of around 24 percent since the last Article IV consultations and by more than 70 percent since the low following the collapse of Lehmans.
- Strength of the Australian dollar has helped ease pressure on inflation and monetary policy and facilitated resource re-allocation to the mining sector.
- Staff finding: Australian dollar may have been overvalued by the order of 10-20 percent.
- Market expectations of a depreciation (of around 6 ½ percent over two years) were noted.
- Australia’s current account deficit (CAD) is expected to widen due to historic levels of investment associated with the mining boom.
- Authorities’ commitment to fiscal consolidation and measures to increase private saving—such as planned increase in the minimum superannuation contribution from 9 percent to 12 percent of salaries—will bolster domestic saving.
- Additional external resources will be required to take full advantage of higher demand for Australia’s commodities.
- Underlying policy imperative: improve flexibility and allocative efficiency of the economy to ensure productive use of resources.

### Financial sector and household balance sheets
- Australian banking system continues to improve its financial position with strong encouragement from the Australian Prudential Regulation Authority (APRA).
- Banks have shifted away from short-term borrowing towards longer-term funding and deposits and hedge foreign currency exposures.
- APRA maintains a well-established stress testing program; upcoming projects include testing across a wider range of funding shocks and cooperation with New Zealand authorities on trans-Tasman crisis management under the Trans-Tasman Council on Banking Supervision.
- APRA will work with the Monetary and Capital Markets Department to conduct stress tests as part of Australia’s FSAP.
- APRA adopts a conservative approach to Basel III implementation in Australia and considers it premature to increase capital requirements for domestic systemically important financial institutions ahead of international consensus; emphasis on effective supervision and risk management.
- Household saving rate reached 10½ percent of disposable income in June 2011—on par with saving rates seen in the mid 1980s.
- Accompanying shifts: reduced appetite for most types of debt, increased debt repayments (including early repayments), and easing of household credit growth.
- Housing market remains in undersupply, but house prices softened by around 2 to 2½ percent over the year to the June quarter.
- Solid income growth and softening house prices contributed to an orderly decline in the ratio of prices to income, now consistent with the average level of the past decade.

### Structural reform
- Long-term adjustment pressures from the emergence of Asia and domestic demographic trends underscore the importance of lifting workforce participation and enhancing productivity.
- Authorities recognize the need to reverse recent decline in multifactor productivity; the 2011–12 Budget outlined a strategy focused on macroeconomic stability, flexibility, and well-targeted investments in skills and human capital, public and private infrastructure, and innovation.
- Legislation to establish a price for carbon and transition towards an emissions trading scheme has been introduced into Parliament to ensure least-cost adjustment to climate change.
- Compensation package for the carbon price includes significant tax reforms.
- The Tax Forum, scheduled for October 4–5 in Canberra, will be an opportunity to build momentum for significant tax reform, drawing on recommendations in the 2009 Report on “Australia’s Future Tax System,” with potential to improve resource allocation and labor mobility.
- Ambitious agenda of productivity reforms in the growing health and education sectors in cooperation with the States.

*Source: _cr11300 - 1.2 percent, in the June quarter.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2011/_cr11300.pdf_