Australia -- 2009 Article IV Consultation Concluding Statement
IMF News, June 24, 2009
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Bibliographic details
- Published: June 24, 2009
Mission summary and context
- Preliminary policy recommendations following discussions with the Australian authorities and private sector institutions focused on cushioning the domestic impact of the global recession, preserving macroeconomic and financial stability, and reducing external vulnerabilities.
- Key strengths cited: strong commodity exports, a flexible exchange rate, a healthy banking sector, and a timely and significant macro policy response.
- Key actions taken: RBA’s early substantive reduction in the cash rate, RBA liquidity measures, government guarantees on deposits and wholesale funding, and a sizable fiscal stimulus enabled by prior fiscal surpluses that had eliminated Commonwealth net debt.
The outlook and risks
- Near-term growth outlook:
- Real GDP is projected to decline by ½ percent in 2009.
- Growth is projected to rebound to about 1½ percent in 2010, led by government spending, with households and businesses deleveraging.
- Output will likely remain below potential for a number of years, reducing core inflation.
- The current account is projected to remain in deficit, with net foreign liabilities relative to GDP rising.
- Risk assessment:
- Downside risks: a prolonged global recovery, significant spillovers via commodity incomes, external demand, and international capital markets; sharper-than-expected deterioration in banks’ asset quality possibly stemming from lower house prices; a high-impact tail risk of a decline of investor confidence in banks or the sovereign (assessed as highly unlikely given low public debt and sound macroeconomic policies).
- Upside risks: stronger-than-expected demand from China; greater-than-expected responsiveness of domestic and foreign economies to existing policy stimulus.
Monetary policy
- Assessment:
- Earlier reductions in the cash rate were appropriate; current stance of monetary policy is appropriate.
- Substantial fiscal and monetary stimulus, and some signs of recovery in consumer and business confidence, should help support domestic demand.
- Recommendations:
- If the outlook for growth and inflation weakens, the RBA has scope to reduce the cash rate further.
- Given the fragile global economy, the RBA should be more cautious than normal in tightening; return of the cash rate to neutral should wait until clear signs of a sustainable recovery.
- Unconventional monetary policy easing measures are unlikely to be needed as the monetary transmission mechanism has not been impaired and reductions in the cash rate have passed through to lending rates; nevertheless, it would be prudent to consider how such measures could be implemented if required.
- Framework note:
- The inflation-targeting framework (2-3 percent average inflation over the cycle) is judged to be a highly effective nominal anchor and has allowed flexibility to contain imbalances.
Exchange rate and external stability
- Findings:
- The flexible exchange rate has been a helpful buffer; depreciation since its peak in July 2008 has helped sustain export incomes.
- Little negative impact on bank or corporate balance sheets due to extensive hedging of currency risk.
- Current assessment: exchange rate broadly in line with fundamentals based on a range of indicators.
- External vulnerabilities:
- Projected build up in net external debt increases vulnerability, but risks mitigated by limited currency risk on foreign debt, a sound banking system, and robust macroeconomic policy framework.
- Gross external debt relative to GDP is lower than in many advanced countries, and financing of projected current account deficits should be feasible given attractive returns to investment.
- If access to foreign capital markets is more limited than assumed, a lower current account deficit and associated domestic adjustment would be required.
- Current account deficits largely reflect higher investment rather than low saving and should be sustainable if investment leads to growth in export capacity.
Fiscal policy
- Assessment of measures taken:
- Quick implementation of targeted and temporary fiscal stimulus welcomed; provides a sizable boost to domestic demand in 2009 and 2010.
- Transfers to households had an immediate impact on activity and confidence; increased public investment supports activity and addresses infrastructure shortfalls.
- Weaker outlook for growth and commodity prices projected to shift the underlying budget balance into a large deficit in the near term, appropriate under current circumstances.
- Recommendations and guidance:
- There is scope for further fiscal stimulus if the outlook weakens, although monetary policy should be the first line of defense and automatic stabilizers should be allowed to work fully.
- If additional fiscal stimulus is necessary, public investment spending has the highest impact on growth; transfers targeted to low-income households have a faster yet still large impact and may be appropriate for prompt demand impetus.
- The government’s commitment to return to surpluses and achieve a positive budget balance on average over the medium term is commendable, but may require further fiscal adjustment if trend growth or terms of trade are lower than assumed.
- To return to surpluses under weaker revenue scenarios, growth of real spending would need to be constrained below the 2 percent annual rate envisaged in the budget once growth has recovered; if revenue is higher than expected, an earlier return to surpluses could be achieved.
- Prudence considerations:
- Commonwealth government debt projected to remain low relative to other advanced economies, but prudence warranted due to low-probability contingent liabilities (possible assumption of additional debt for banks, guarantees on deposits and wholesale funding, state-government debt) and potential rise in sovereign debt yields as global supply increases.
- Returning to lower debt levels once growth recovers would strengthen capacity to respond to future shocks.
- Remaining longer-term pressures from aging and rising health care costs argue for more policy action beyond measures included in the budget.
Financial sector
- Condition and resilience:
- Australian banking sector entered the crisis in a healthy position: high profitability, capital buffers well above regulatory requirements, very low exposure to sub-prime mortgages.
- APRA’s proactive approach and conservative capital adequacy rules helped avoid risky lending; major banks maintained AA credit ratings and raised equity.
- Remaining vulnerabilities:
- Banks must continue to manage short-term offshore liabilities that represent a significant share of funding.
- Non-performing loans have started to rise (albeit from a low base) and could rise further as unemployment increases and growth remains weak.
- Policy actions and recommendations:
- Wholesale funding guarantees and deposit guarantees under a million dollars bolstered confidence; RBA actions ensured sufficient liquidity.
- Commendation for APRA’s stress testing and recommendation to use more extreme scenarios and include Australian banks’ overseas subsidiaries.
- Prudential judgment should assess adequacy of capital buffers; capital requirements should be raised if necessary. IMF’s preliminary analysis suggests banks will be able to withstand potential further losses from a sizable downside shock.
- Introduction of new liquidity guidelines is welcome; banks are increasing medium-term funding but future liquidity positions should be based on prudentially enforced guidelines. Strengthening liquidity positions and reducing rollover risks justify likely increases in funding costs.
- Exit strategies from crisis measures are being considered; the risk-pricing element of the wholesale funding guarantee provides a natural exit once markets normalize.
- Ongoing work on crisis preparedness includes developing a framework to deal with liquidity or solvency problems in major banks in Australia and New Zealand, in the unlikely event they should emerge.
Mission conclusion
- The IMF team valued candid discussions and close cooperation with Australian authorities during the global financial turmoil and appreciated authorities’ hospitality and thorough preparations for the mission.
Mission Concluding Statement — June 24, 2009