TOPIC 1: THE GLOBAL ECONOMY International economic integration ➢ The Global Economy

➢ Gross World Product Gross World Product: the aggregate value of all goods and services produced worldwide in a year (a global version of GDP)

- GDP of all countries/economies ➢ Globalisation

Globalisation is the process of increased integration between different countries and economies and the increased impact of international influences on all aspects of life and economic activity.

- Indicators of globalisation - 1) International trade flows in goods and services - 2) International financial flows - 3) The growth of international Investment and TNC’s - 4) The increasingly internationalised Labour Market

● Trade in goods and services

- The level of international trade flows have increased rapidly - $US 6T in 1986 to $US 42T in 2018 - 37% of global output in 1986 to 54% of global output in 2018 - Composition of trade flows:

- Dominated by manufacturers (declining) - Trade in finance and communication set to grow into the future

- Direction of trade flows: - Traditionally dominated by high-income nations, though this is undergoing change - High-income nations accounted for 82% of all trade in 1995, now down to 64% in 2018 - East Asia and pacific 7% in 1995 to 18% in 2018

● Financial flows

Globalisation of financial flows play a leading role in the global economy

- All indicators show an increase in financial flow over the past few decades - International financial flows have expanded substantially since the deregulation of the financial system

One important feature of international finance: Foregin Exchange Markets (FOREX)

- FOREX markets are networks of buyers and sellers exchanging one currency for another in order to facilitate flows of finance between countries

- The main drivers of global financial flows are speculators - Speculators are investors who buy or sell financial assets with the aim of making profits from short-term price

movements. - Often criticized for creating excessive volatility in financial markets

Global financial flows enable countries to obtain funds that are used to finance their domestic investment e.g. Foregin Investment

- The International Monetary Fund (IMF) is responsible for the overall stability of the global financial system

- Exchange traded derivatives have grown x20 since 1990 - By 2013, annual exchange traded derivatives had reached $US 73T

- Almost the same size as the global economy - The flow of funds almost dried up when the GFC struck in 2008, as financial institutions stopped lending to one another

due to ‘mountains of toxic debt’ in the financial system

Foregin exchange volumes have also increased - Network of buyers and sellers exchanging one currency for another (AUD FLOATED 1984) - Huge increase in FOREX markets with daily turnover of $5T per day being traded worldwide

● Investment and transnational corporations

Foregin Direct Investment:

- Movement of funds between economies for the purpose of establishing a new company, or buying a controlling share (more than 10%) of shares in an existing company

- Long term investment - Investors intend to be involved in the management of the business - In recent years, there has been a steady increase in FDIs (particularly because of countries lifting restrictions on FDI e.g.

floating exchange rate, financial market deregulation) - Significant drops in FDI in 2001 and 2009-10, due to the dot com bubble burst, and the GFC - FDI has traditionally favoured developed nations - Has recently shifted towards emerging economies - In 2014, emerging and developing nations received 59% of FDI inflows - FDI flows have increased from $US200b in 1990 to around $1.7T in 2018

TNCs:

- Major contributor to the growth of FDI - E.g. Walmart, Shell, BP, Toyota - Operate in at least 2 countries - Many production facilities around the world - Whenever a TNC establishes a subsidiary (a company controlled by another company- owning 50% of it shares) within

another economy, it is providing FDI to that country, which is a source of investment funds - As TNCs expand, they bring capital, technology, skills and knowledge which improves productivity and output levels- this

is particularly helpful in developing and emerging economies - They also increase employment and improve the skills of the workforce by providing training - Governments encourage FDIs from TNCs through subsidies, access to cheap labour + environmental regulations

● Technology, transport and communication

- Facilitates process of globalisation - Information technology revolution - Freight economies- benefit from more efficient systems to facilitate greater trade in goods and services e.g. roads,

railways, ports - Internet has allowed for international communication and is widely used in financial markets with the majority of money

exchanged online - More efficient aircraft and high speed rail = greater mobility and transport options - TNCs operating overseas tend to bring capital equipment from overseas - The better the technology, the better the trade transportation and communication which is important for maintaining costs

associated with conducting business internationally

● International division of labour, migration

Migration: - The movement of people between countries on a permanent or long term basis (12 months or longer) - Labour markets = less internationalised that markets for goods and services - Labour markets are less globalised, as people cannot always move from country to country - Even though there are a large amount of restrictions, migration has increased in recent years, because there are more

opportunities overseas than ever before - Almost 70% of the world's migrants live in high-income countries - The movement of labour between economies is concentrated at the top and bottom ends of the labour market

- Top end: highly skilled workers are attracted towards the richest economies such as US and EU economies (for higher incomes)

- Bottom end: low skilled labour is in demand in advanced economies (require only basic skills) - Trends in migration reflect an international division of labour where people move to the jobs where their skills are needed

Barriers to the movement of labour: - Immigration restrictions - Language - Cultural factors - Incompatible education and professional qualifications

International division of labour:

- Can also be the shift in businesses instead of people - E.g. when global corporations shift production between economies to find the most efficient and cost effective labour

(offshoring) - Reflects the theory of comparative advantage- that an economy should produce what they can at the lowest opportunity

cost (most efficient) - E.g. developing nations have a large population of workers in the labour intensive manufacturing - Advanced economies have shifted away from labour intensive manufacturing to focus on specialised service,

particularly in the areas of the economy that use more highly skilled workers - 200 million people have migrated to work in different countries (estimated)

➢ The international and regional business cycles

Business cycle: fluctuations in economic activity. Periods of expansion and contraction. - Business cycles of individual economies have become synchronised - Growth patterns in regions tend to move together - When a country is experiencing high growth, its people get higher incomes, and spend more on imports. This means the trading

partners are getting more revenue from their exports, which will result in higher levels of economic growth for them too International business cycle:

- Fluctuations of economic activity in the global economy - Economic growth to individual economies is higher when global growth is high - 63% of changes to level of output in Australia is due to interest rates, growth levels, inflation rates in largest industrialised

nations, meaning that international factors have a greater influence on the economy than domestic factors Regional business cycle:

- Fluctuations in level of economic activity in a geographical region of global economy - Country’s economy can be affected by regional changes

- E.g. impacts on US economy will have a ripple effect for Canada, Mexico - In the east Asia region, economic conditions are determined by the growth of China and Japan - Low income nations tend to be less integrated

- Reasons for difference in economic patterns between regions: - Presence of a large economy with varying degrees of inequality - Economic crisis can intensify regional business cycles - Different stages of development - Common economic policies (e.g. EU with common monetary policy)

Trade, financial flows and foregin investment ➢ The basis of free trade - its advantages and disadvantages

Trade in the global economy:

- Comparative Advantage: theory states that even if one country can produce all goods more efficiently than another country, trade will still benefit both parties

- Each economy specialises in the production of the good in which it is comparatively more efficient at producing

- Free Trade = no artificial barriers to trade imposed by governments, as they have the aim of shielding domestic producers from foregin competition

Advantages of free trade:

- Access to resources that a country cannot produce itself - Increased living standards - Improved consumer choice - Improvement in efficiency, by allowing countries to specialise in goods and services that they are

most efficient, leading to economies of scale and increased production - Specialisation leads to economies of scale - lower costs of production, whilst increasing

productivity - Improvement in economic outcomes - Better resource allocation - Improvement in international competitiveness - Protection of domestic employment- tariffs and other protection methods work to increase the prices

of imports, making them more unattractive for consumers to buy. This makes our local goods more attractive and therefore in demand. Because labour is derived demand for goods and services, protection allows for increased employment.

Disadvantages of free trade:

- Dumping- production surpluses may be “dumped” on the domestic market at unrealistically low prices, which may affect efficient industries- they may be unable to compete with foreign firms, and may be forced out of business, causing a loss in a country’s productive capacity. The only gain from dumping is lower prices for consumers, however, his is only in the short term as once the competition is eliminated, foreign produces will raise their prices again.

- Domestic employment may fall, as Australian firms close because domestic businesses may find it hard to compete with imports. However, this is mostly structural unemployment that corrects itself in the long term, as resources are redirected to areas of production in which it has a comparative advantage.

- Infant industries struggle to compete- provides no incentive for the industry to reach a level of efficiency that would enable it to compete without protection. Governments should provide temporary assistance only to industries that have a good chance at achieving comparative advantage

- Environmentally irresponsible production: negative externalities - because producers in some nations may produce goods at a lower cost due to weaker environmental protections and environmentally damaging practices

➢ Role of international organisations - WTO, IMF, World Bank, UN and OECD

WTO:

- 161 member countries - Implement multilateral free trade agreements to promote trade liberalisation - Facilitate international trade flows - Resolves disputes through discussion or providing a decision, e.g. Doha Round, goal of reducing global protection - Encourages dismantling of trade barriers between economies, promoting free trade - E.g. China was required to reduce its average tariff from 35% in 1990 to 15% in 2001 in order to join the WTO

IMF:

- 186 member countries - Focused on financial flows - Ensures global financial and economic stability - Assist countries experiencing a currency crisis and prevent crises from spreading to other countries via the financial contagion

effect (where reduced investment and trade slows growth in other economies) - Avoid global recessions and currency crises - E.g. helped Turkish economic crisis and GFC - E.g lent $160 billion USD in 2009 during the GFC to help countries pursue stimulatory macroeconomic policies - Only give packages to economies that agree to adjust their financial policies - Often face criticisms for making crises worse, e.g. AFC - They recommended for the countries suffering to raise interest rates to stimulate demand for the currency, thus leading to an

appreciation. However, this contractionary stance in a time of weak economic growth (-10% in Thailand in 1998), was criticised for worsening growth and employment

World Bank:

- Coordinates multilateral aid to promote economic growth and development - Development of poorer countries - Foreign funds to build schools, hospitals and industries - Provides loans to developing nations (soft loans, with little or no interest) - Vital cash flows that poor countries can’t obtain otherwise - Debt relief packages - Encourage private investment into development projects - In 2014, the World Bank made US $66 billion in loans, grants and equity investments to reduce global poverty - Involved in debt forgiveness to developing countries, to reduce sovereign debt burden - HIPC initiative (Heavily Indebted Poor Countries) conducted by the World Bank in conjunction with the IMF to pay off debt on

behalf of 39 countries, and free up government funds for infrastructure spending, rather than having to service these debts.

UN: - 193 member states - Supports greater linkages between economies - Universal membership - Unified global standards which make it simpler for countries to invest and trade - E.g. Food and Agricultural Organisation of the UN established global standards for food safety - Global security - Strong environmental focus - International health - International law - Contributes to a more globalised world - Focused on economic development - Boosting quality of life indicators - Also responsible for setting the Millenium Development Goals to improve living standards in developing nations. This had mixed

results. The goal of halving extreme poverty from its 1990 levels was successful in Asia, but poverty is still a problem in Sub-Saharan Africa

OECD:

- 34 advanced economy members - Employment - Fiscal stability - High standards of living - Main role in practice is researching into different economies and their issues - Helps coordinate international economic action - E.g. $52 billion stimulus into Australia, which helped us to avoid the recession, with GDP growth of 1.7% in the worst year of the

GFC (2009) ➢ Influence of government economic forums - G20, G7/8

G20

- 1999 - Created in response to a number of financial crises during the decade - Met for the first time in 2008 after the GFC - Supervision of the financial sector

- Coordinated policy response to the GFC

G7/8 - 1976 - Italy, Germany, France, Japan, Canada, US and UK (most important economies at the time) - (and Russia until 2014) - Discuss subjects such as economic growth and international security

➢ Trading blocs, monetary unions and free trade agreements (EU, APEC, NAFTA, ASEAN) and bilateral agreements

Trading blocs:

- When countries in a region formally cooperate on trade by implementing FTA - May apply more protection against non-members - E.g. NAFTA - North America Free Trade Agreement (Canada, Mexico and US)

Monetary union:

- Member economies adopt a common currency - Are run by the central bank - E.g. EU - The central bank implements one monetary policy, or one interest rate - Synchronisation facilitates economic management - Encourages investment between member economies, but excludes

Free Trade Agreements:

- Bilateral: between 2 members e.g. CERTA (Australia and NZ) - Multilateral: multiple members e.g. ASEAN (emerging and developing economies- Thailand, Vietnam, Philippines, Indonesia)

Protection ➢ Reasons for protection - infant industry argument, domestic employment, dumping, defense

Protection:

- When governments impose policies that give domestic producers an artificial advantage against foreign competitors - Helping Australian firms so they can have a chance against foreign producers - E.g. imports are more expensive and less attractive, or make local goods cheaper and more attractive (international

competitiveness)

Infant industries: - New industries face difficulties and risks in early years - Often start out small scale, with costs that are relatively higher than those of established competitors - Protection to protect industries that are newly established - Infant industries may need to be “shielded” from competitors in the short run - Without protection = no incentive for industry to reach a level of efficiency that would enable it to compete without protection - New firms must build economies of scale in order to compete against large foreign firms - Protection can “buy” the firms, to become more internationally competitive by increasing output - Some industries, however, continue to rely on assistance for many years

Prevention of dumping:

- Dumping = when foreign firms sell their goods in another country’s markets at an unrealistically low prices - May be done to dispose of large surpluses or to establish a market position in another country - They are usually only of a temporary nature, but can harm domestic industries - Only gain = lower prices for consumers in the short term. - Protection makes imports more expensive, due to the tax place upon imports (exporters pay tax)

Protection of domestic employment:

- If we protect our industries to protect employment, this creates jobs that are inefficient

Defence and Self Sufficiency: - Won’t accept goods from other countries to allow for self-sufficiency in case of a crisis

Other arguments in favour of protection:

- Producers should be protected from competition with countries that produce goods using cheap (or exploited) labour or degrade the environment

- Trade embargo imposed on countries that may have broken international law ➢ Methods of protection - tariffs, subsidies, quotas, local content rules, export incentives

Tariffs:

- Government imposed taxes on imports - It has the effect of raising the price of the imported goods, making the domestic producers more competitive - E.g. 50c + 10c tariff = 60c to buy in Australia - Influences us to purchase Australian goods - Source of government revenue - Keeps inefficient industries operating - Consumers pay more for their goods and services - May invite retaliation from other countries

Tariff graph:

- PW = no protection - World price = price traded internationally (international competitiveness lowers the world

price) - Imports = Q4-Q1 - Q1 = what the firm supplies - Q4 = what consumers demand - Imports represent money leaving the economy - Tariff introduced = above PW - P2 = tariff - Introduction of tariff = demand contracts (Q2-Q3) - Supply increases (Q4-Q1) - Imports fall with tariff - Market share of domestic firms increases

Effects of a Tariff:

- Stimulates domestic production and employment - As the price of imported goods increase, the demand of domestic goods contract - The supply of domestic goods expand - Government revenue goes up - More domestic resources are attracted to the protected industry, this leads to a reallocation of resources towards less efficient

producers.

Advantages: - Extension in supply, increasing production and employment - Creates a source of revenue for the government

Disadvantages:

- Contract domestic demand - Consumers pay a higher price - Causes a reduction in allocative efficiency- resources are diverted away from efficient industries to the inefficient, protected industry

Quotas:

- An import quota controls the volume of a good that is allowed to be imported over a given period of time - The quota guarantees domestic producers a share of the market - A quota would expand domestic supply and raise the price of imported goods = Demand for domestic goods will rise - Do not provide tax revenue for the government - However, some revenue may be obtained through selling of import licences

- Importers receive the full price (no tax/tariff) - Decreasing quota = fewer products allowed into the country (more protection) - Increasing quota = more products allowed into the country (less protection)

Quota diagram:

- Q1 = small quota - Q2 = large quota - Effects supply - Domestic supply increases

Economic effects of a quota:

- Stimulate domestic production and employment -- producers supply a greater quantity of

the good - Revenue is not generated for the government … but can be raised through selling

import licenses which allows firms to import a certain number of goods

- May invite retaliation -- from the country whose exports are reduced because of the protection - Consumers pay a higher price, and receive fewer goods -- decreasing economic growth

Advantages:

- Keeps volume of imports unchanged even when demand for imported goods increases - More easily imposed and removed - Stimulates production and employment

Disadvantages:

- May invite retaliation - Does not raise government revenue - Restricts competition - Consumers pay a higher price, and receive fewer goods

Subsidies:

- Boost exports - Directly support domestic industries - Cash payments given by the government to producers - Increase in supply - Total size of the subsidy = between supply curves (vertical distance) - Increased supply = production and employment increases - No government revenue (as it is expenditure)

Subsidy diagram:

- Size of subsidy is NOT p1-p2 - Size of subsidy IS between supply curves - Lower equilibrium price - Increase supply

Advantages:

- Increases domestic production and employment - Doesn’t raise the price for consumers unlike a tariff and quota- still pay the world price - Less retaliation - Easier to get rid of- as they are an expenditure, not a revenue - Direct support to australian industries

Disadvantages:

- Cost for government- government expenditure is diverted away from merit goods, which can improve quality of life - Increased domestic production means an increase in demand for factors of production. Factor costs are then increased, and therefore

productive industries who do not require a subsidy may be less competitive on the market - Over-reliance on protection - Creates an oversupply, meaning production surpluses may be dumped onto foreign markets.

Export Incentives:

- Programs - Give domestic producers assistance to penetrate global markets/ expand global market share - Come in the form of grants, loans, technical assistance, and advice - They are non-tariff barriers to trade- they provide inefficient industries an advantage over efficient ones - Generally administered by Austrade

Local Content Rules:

- Goods must contain a certain percentage of locally made parts - In return for having a proportion of goods made locally, imports will not incur a tariff

Globalisation and economic development ➢ Differences between economic growth and economic development

Economic growth:

- Increase in GDP or income over time - Increasing ability of a country to produce goods and services in order to increase their overall GDP - 2 ways to measure income

○ GNI (Gross National Income) ■ Resident producers + primary income from foreign sources

■ Countries involved with a large amount of foreign direct investment, foreign corporations, or foreign aid will show a large difference between GNI and GDP.

■ US has the largest, followed by China and Japan ■ Problem with GNI- it can make inaccurate comparisons with it and living standards. If a developing nation has low prices

compared to advanced nations, it will underestimate the incomes received in that country ■ Does not measure how much we make, but how much is actually ours ■ https://www.youtube.com/watch?v=FyWr9l6DWm0

○ PPP adjusted GNI ■ Compares different countries' currencies through a "basket of goods" approach. ■ PPP compares economic productivity and standards of living between countries. ■ A country is in PPP with another if the market basket of goods is the same price (adjusted with exchange rate) ■ Once the PPP is determined, it remains relatively constant over the long run ■ https://www.youtube.com/watch?v=pbIhGTJe41k ■ https://www.youtube.com/watch?v=iOxYbH5XyG8

Economic development:

- Measure of quality of life - Health, education, environmental quality, material living standards, domestic work, inequalities to income distribution\ - Measured through HDI

➢ Distribution of income and wealth

- GWP is distributed unevenly - Developed nations have a disproportionately higher GDP compared to developing nations - The world’s 7 largest economies (China, USA, India, Japan, Germany, Russia, UK, France) have a greater GDP than the rest of the

world combined ➢ Income and quality of life indicators

- HDI - Devised by the UNDP to measure economic development - Takes into account:

- GNI per capita: material living standards + access to goods and services - Life expectancy at birth: higher levels of longevity are crucial for economic and social well-being. It also includes measuring

nutritional standards in the economy - Level of education attainment: important to the development of skills of the workforce and future potential of the economy

- Millennium Development Goals - UN Summit in 2009- 189 countries agreed to 8 MDGs - Goals reflect the importance of education, health, environment in improving quality of life - Progress of meeting the goals has been mixed: 1990-2015 = people living in extreme poverty fell from 36% to 12% - However, overall figures mask widespread levels of extreme poverty in regions such as Africa

➢ Developing economies, emerging economies, advanced economies

ADVANCED DEVELOPING EMERGING

INCOME LEVELS - High income - GNI above $13,000

USD

- Low income levels - Around ½ population in

absolute poverty (less than $1.25 a day)

- Very high income inequality

- Income levels vary - High levels of income

growth

ECONOMIC GROWTH - Slower growth in recent decades

- 1.8% in 2014

- Moderate growth rates - High population growth - GNI per capita growth is

slow

- Strong growth (5-10%) and favourable growth prospects

STRUCTURE OF ECONOMY - Serviced based, with advanced manufacturing

- Heavily reliant on agriculture, and in some cases foreign aid

- Substantial manufacturing

- Emerging services sector

OTHER CHARACTERISTICS - Stable democratic political institutions

- Weak or corrupt political and economic

- Emerging middle class

- Strong markets - Close economic ties

institutions - Discouraging savings

and FDI

➢ Reasons for differences between nations

Global trade system

- Wealthy countries have high levels of protection in the agricultural sector, which excludes developing countries and their exporters

- Subsidies in advanced economies for agriculture reduces the need for agricultural imports, and reduces the revenue of farmers in developing nations

- Regional trading blocs such as EU and NAFTA divert trade away from developing nations, reducing their access to global markets, especially in agriculture where advanced economies impose higher tariffs (18% average for EU)

- WTO’s Doha Round - focused on trade reforms to benefit poorer nations, however, advanced economies have resisted lowering their protection

Global financial architecture

- Deregulated financial markets enable free flow of funds around the world for investment - Flows of investment have traditionally favoured advanced economies - The world’s 48 poorest countries only receive 4.3% of global FDI - Speculators favour prosperous emerging markets which offer better financial returns - The IMF recommended developing nations to undertake “structural adjustment” (reducing protection), so they can specialise

where they have a comparative advantage (agriculture), however they are reluctant because they find it hard to compete against subsidised agriculture in advanced nations. They cannot increase their productivity, due to the inability to provide incentives, or purchase technology.

Global aid and assistance

- Development aid has fallen over the years - From 2013-14, aid to the least developed nations fell by 16% - Critics of aid policies argue that a significant portion of the aid being supplied is not beneficial (phantom aid) as the funds are

spent on debt related issues, refinancing past loans, administration etc - Advanced economies pledged 0.7% of GDP for global aid, however only 0.3% has been given

Global technology flows

- Technology can close gaps in living standards, but also entrench inequalities - New technology can be absorbed faster in economies with better infrastructure, higher education and higher use of other

technologies - New technologies are geared to high income economies, mostly in the area of scientific research - Developing nations find it harder to gain access to new technologies as they cannot pay developed country prices for them

Natural resources

- Economies with larger quantities of natural resources can use them for export revenue, but an over abundance may contribute to an overvalued dollar, narrow export base and over reliance on a small number of industries for growth

- Economies with limited resources are unable to generate income to fund development

Labour supply and quality - High income countries = high skilled and educated labour - Low income nations = high population growth, poor education levels and poor health standards - Developing nations have problems accessing capital for investment - Low incomes = less savings, so poorly developed financial systems make it difficult for businesses to gain easy access to loans

for investment purposes

Economic policies - Government needs to balance between market forces and intervention - If market forces are unchecked/monitored, high levels of economic growth may occur without improvements in health, living

standards, education - Excessive government control can constrain innovation and reduce economic growth

➢ Effects of globalisation

Economic growth and development

- Globalisation has not produced an acceleration of world economic growth, however, has led to a convergence in living standards in the global economy

- Remarkable growth by emerging economies can be largely attributed to international trade, foreign investment and participation of TNCs

- E.g. East Asian and Pacific regions have achieved 9% p.a economic growth in the recent decade

- Globalisation has provided, particularly to emerging economies, more resources for health and education, as well as raising national income

- Globalisation, however, has also contributed to continuing and widening inequality and accelerated environmental damage

Income inequality - Global mobility of skilled labour, as assisted by globalisation, has lead to increased income inequality - As skilled labour are able to migrate to advanced economies with higher paying jobs, they are offered higher incomes - Less skilled worker incomes grow at a much slower rate - Increased financial flows provide greater employment opportunities and fuel economic growth - but tend to be highly

concentrated in advanced and emerging economies, favouring those who are already better off and leading to increased income inequality

- Increased openness to trade has benefited export industries greater - Lower tariffs can improve standards of living for the poor by reducing the price of goods, however, advanced economies are

unlikely to reduce their tariffs - According to the IMF, income inequality has risen by almost 0.45% per year over the past 3 decades - Technological change = shifts production from low skilled labour to high skilled jobs. This benefits people with higher levels of

education, but increases unemployment for less skilled workers ➢ Trade, investment and transnational corporations

- Globalisation has significantly increased trade flows and foreign investment - Led to TNCs increasingly dominating business activity around the world - International trade has continued to grow most years, and makes up ⅔ of global output - Vertical specialisation: when goods are produced in different stages in different economies - Investment is expanding beyond physical capital, into productivity training for labour and long term business relationships - Between 1990 and 2001, FDI increased by sevenfold. However, its benefits have been limited to advanced/favourable economies - Growth by TNCs has been spurred on by the removal of restrictions on foreign ownership and development of global capital markets - They dominate world’s major industries, such as motor vehicles, telecommunications and pharmaceuticals - World Bank Research Papers show that they do not benefit local communities as much as they use less domestic capital and labour - Advantages of FDI and TNCs can be enjoyed when increased links with the global community assist local suppliers

➢ Environmental sustainability

- Negative environmental consequences - Low income countries are desperate for foreign investment, so they can earn a revenue which may involve them engaging in behaviour

which harms the environment, e.g. deforestation, unsustainable fishing etc) - Growth in trade is increasing consumption of fossil fuels, and these increasing emissions have led to climate change, which impacts all

our nations - Globalisation offers opportunities to protect the world’s environment from harm by forcing nations to accept responsibility (i.e.

coordination to create policies to address climate change) - Globalisation can also create international institutions with power to enforce orders on individual countries to stop environmental

damage, and facilitate the transfer of new technologies to improve energy efficiency and reduce environmental pollution China Case Study Intro: Globalisation refers to the increasing interdependence of world economies as a result of cross-border trade and flows of international capital both speculative and FDI. China’s economy seen increases in economic growth as well as economic development since the 1980’s a direct result of globalisation. Economic growth can be defined as an increase in the total value of goods and services produced by an economy over a period of time, where as economic development is a qualitative measure of a country's well being based on quality of life, measured through the Human Development Index (HDI) using criteria such as income per capita, education levels and life expectancy. China’s export driven growth has significantly impacted these areas and such growth can be attributed to globalisation. Introduction into China’s economy: China’s economy has transformed rapidly since the 1980’s from a previously agricultural economy to an industrialised economy with a once rural based peasant society transitioning into an urban based society with an increasingly affluent middle class. This can be attributed to China’s economic reform strategy which took place after the death of Chairman Mao in 1978. These reforms allowed FDI investment to inject capital into China’s economy taking advantage of China’s comparative advantage of manufacturing due to cheap labour and loose regulations, making China ideal for businesses to shift their manufacturing processes away from Western countries. Open door policy Prior to Deng’s rule, China’s economy was closed off for the most part and unable to take advantage of globalisation. The ‘open door policy’ established in 1980 created Special Economic Zones which promoted growth and development along the southern and eastern provinces. TNC investment was encouraged by incentivising low taxation rates, exemptions from import duties and less stringent regulation regarding labour laws etc. China’s trade in imports and exports grew from 10% of China’s GNP in 1978 to 36% GNP in 1996, a direct impact from increases in inflows of foreign capital and western technology and management skills creating vast employment in the manufacturing sector, a direct result of globalization's impact on China’s economy. China’s economic growth

Due to such high inflows of foreign capital, China has been able to sustain a high rate of average annual growth of 10.1% real GDP (GDP - Inflation) between 1998 and 2008. This growth peaked at 14.2% in 2007 and slowed significantly in 2009 due to the financial crisis, to combat this the Chinese government implemented a US$586b fiscal stimulus package in November of 2008, the package to provide funding to infrastructure in order to re-balance growth from exports to increasing domestic consumption and investment. China’s trade oriented economy is now looking internally for investment as being such an export driven economy exposes China to volatility in the global economy and has affected GDP growth e.g during the Global Financial Crisis and European Sovereign Debt Crisis, this exposure to other economies can be linked to globalisation and the interconnectedness between economies. China’s economic development China’s rapid rate of economic growth has resulted in significant improvements in economic development including substantial reductions in poverty and increases in HDI. China’s HDI has risen from 0.518 in 1995 to 0.738 in 2015, with life expectancy at 76 years, mean years of schooling 7.6 years and GNI per capita at US$13,345. With such improvements in economic development a rise in income inequality has occurred with China’s Gini coefficient rising from 0.3 in 1980 to 0.5 in 2015, this can be attributed to China’s rural-urban income gap and China’s large geographical variations between provinces. Thus leading to per capita incomes being higher in urban areas and coastal and SEZ provinces compared to rural areas and western provinces of China. Globalisation’s role in economic development has been crucial pulling 800 million people out of poverty while at the same time increasing income inequality which is only set to increase with China’s rapidly expanding middle class. Environmental externalities China’s rapid rate of economic growth has also lead to high levels of resource depletion leading to severe environmental problems. As of current, 7% of GDP is lost because of pollution and inadequate healthcare could see 600,000 premature deaths per year, China accounts for nearly half of all global carbon dioxide emissions due to weak environmental laws and the failure to implement clean energy. Other environmental problems include inadequate disposal of household and industrial waste leading to severe water pollution with the OECD estimating 300 million people drinking contaminated water daily. Severe levels of air pollution have also led to China having a high incidence of respiratory diseases with outbreaks in bird flu caused by high levels of pollution and a lack of health and hygiene standards in both rural and urban areas. China’s laws and regulations haven’t been able to keep up with economic growth leading to severe environmental issues which are having an increasingly negative on the growth of economy as well as living standards of those who are exposed to high rates of pollutants.

China Case Study Questions from Term 4

1. The Chinese economy has become the largest economy in the world in terms of valuation of its GDP. In 2016 China accounted for 17.8% of global GDP. China is the largest country in the world in terms of population size with 1.3 billion people. China’s rate of growth in real GDP averaged 10.1% between 1998 and 2008. Fast forward to 2017 the growth rate was forecasted to slow to 6.6% dude to slower growth in advanced economics and the transition of China to domestic sources of growth rather than the reliance on export led growth.

2. China's current economy is classed as socialist and is ruled by the communist government. This government structure formed after the Chinese Civil War in 1949. Under Mao’s rule, China attempted to modernise its agriculture and industry known as the “Great Leap Forward.” Which took place during the 1950s. This policy however failed to grow the national economy and the failed raise in national output resulted in widespread famine and poverty. Ensuring Cultural Revolution lead by socialist parties urging China to push towards modernisation were impeded by Mao’s communist party who had isolated China's economy from the global economy.

3. China's economic reforms took place between 1978 and 1997 and were implemented by Deng Xiao Ping to improve China’s economic performance. These reforms were based on achieving rapid industrialisation and modernisation by sustaining high rates of economic growth to raise living standards. These policies include the “open door policy” and the infamous “one child policy.” Taxation reforms were introduced in 1994 to shift the power to collect taxes from provincial governments to the central government in order to improve the efficiency of tax collecting and to finance public infrastructure spending. Banking laws were also introduced in 1995 to promote investment in china all of which was designed to stimulate the economy and increase GDP growth. In the 1980s and “open door policy.” Was adopted towards foreign trade and investment with special economic zones set up in southern and eastern provinces in China affecting cities like Shanghai and Guangzhou. These SEZs attracted huge amounts of foreign investment through incentives such as low tax rates, exemption from import duties and less stringent government regulations. This proved successful as trade in imports and exports grew from 10% of China’s GNP in 1978 to 36% of GNP in 1996. These inflows of foreign capital allowed china to have a greater access into export markets and with new western technology, skills and management created and ever-growing manufacturing sector in China creating employment in these provinces. Agricultural reforms between 1978 and 1994 involved the abandonment of the commune system of agriculture replacing it with the Household Responsibility System which allowed households to make their own production decisions and the ability to sell surplus output in the free market after a certain quota was met. This new system lead to an increase in agricultural out and the surplus income was used to invest in businesses which operated in the manufacturing sector, raising industrial output.

4. Over the last 2 decades china has sustained an unprecedented high rate of average annual growth with real GDP growth averaging 10.1% between 1998 and 2008. This peaked in 2007 at 14.2% and slowed to 9.2% in 2009 due to the GFC, this affected China due to its heavy reliance on exports and inflows of foreign investment. China's economy has slowed today as it is becoming more established and is forecasted to grow at a rate of 6.7% in 2017. China's industrialisation and modernisation has been based on driving growth and gaining equity through foreign investment. There are four main ways china's economy has been able to transform itself. Firstly, China has moved from being a socialist economy to that of a capitalist one. Another transformation is China’s transformation from an

agricultural economy to an industrialised economy this has lead to a shift from China’s rural and peasant society to one with an ever increasing middle class hence the increase in spending on luxury goods and overseas investment. China has also benefited greatly from globalisation and has integrated itself with the rest of the global economy shifting from an economy with a domestic focus to one with a large trade oriented focus. China’s large population and economy has cemented itself as a key economic power which greatly contributes to global output, economic growth and investment.

5. China’s rapid economic growth has lead to a substantial reduction of poverty. Over the last 25 years extreme poverty has been reduced by 400 million people in China. This reduction in income poverty was most rapid between 1990 and 2001 with 130 million people moving above the poverty line of US$1 a day. With China’s economy doubling in size between the 80s and 90s real incomes and GDP per capita have increased greatly. Life expectancy has risen from 63.2 years in 1975 to 76 years in 2015. Income per capita has also risen at an average of 8.2% between 1975 and 2015 to reach US$13,345 in 2015. With such improvements in economic and human development, China’s HDI has risen from 0.518 in 1995 to 0.738 in 205h ranking it 90th in the UNDP’s HDi list. It is evident that this increase in living standards is derived from the economic growth seen in china due to its rapid transformation over the last 30 years from an agricultural economy to an international powerhouse and China’s HDI is only expected to increase as China becomes more wealthy with a larger middle class and less people living below the poverty line which is currently at 7.2% of China’s population.

6. There has been a notable rise in income inequality in China over the last two decades with the Gini coefficient rising from 0.3 in the early 1980s to 0.462 in 2015. The Gini coefficient in Hong Kong alone was recorded at 0.539. This rise in income Inequality reflects China’s large geographical variations in income and China’s large urban-rural income gap. Per capita incomes are much higher in urban areas such as large cities in eastern and southern China e.g. Shanghai compared to rural villages in China’s north. Coastal areas have developed the fastest economic and employment growth and rising incomes because of their proximity to Special Economic Zone’s like Shanghai, Beijing and Guangzhou. Growth in these regions are five times higher than that in China’s northern regions like Tibet.

7. Foreign direct investment remains a propellant in China’s economic growth and the Chinese government uses capital compels to encourage FDI investment rather than portfolio investment meaning the government has control over the amount of money being brought in and leaving China this is to reduce big surges of foreign investment coming in and leaving the Chinese Economy and as a result provides increased stability. China has attracted record levels of FDI due to China’s presence in the manufacturing sector with firms setting up production facilities in SEZ cities such as Shanghai, Guangzhou and Shenzhen in order to take advantage of cheap labour and utilities. As of 2011 total FDI investment was valued at US$116b and doubled to US$242.4b in 2015. This has lead to China surpassing the USA to be the top recipient of FDI investment in 2002 and is fuelled by MNCs locating to China in order to manufacture goods for export markets as well as domestic sale to China’s increasingly affluent middle class. The majority of these FDI investments come from asian nations including the two autonomous territories of Hong Kong and Macau as well as US and European investment.

8. The Chinese government is currently committed to further long term structural reforms in the Chinese economy as growth slows and the economy re-balances the sources of growth from foreign investment to domestic consumption and business investment. The Chinese government wants private business and the market to drive economic growth at a growth target of 6.5%. The Chinese government's priorities are to promote sustainable economic development and maintain social cohesion and stability and will be done so by introducing gradual steps to allow market forces to determine interest rates, Encourage private investment in services such as finance, energy, health care and other service sectors and lastly allowing FOREX controls the valuation of the RMB.

TOPIC 2: AUSTRALIA’S PLACE IN THE GLOBAL ECONOMY

Australia’s trade and financial flows Value, composition and direction of Australia’s trade and financial flows

➢ Trends in Australia’s trade pattern

The changing direction of trade: 1950’s:

- Australia mainly traded with the UK and other European countries 1960’s:

- Australia’s trade patterns shift and Japan becomes a major export partner 1980’s:

- Japan growth slows: exports shift to other Asian markets 2007:

- China becomes Australia’s largest trading partner - Although Australia does not sell a high proportion of its production to other advanced economies, it still buys a substantial

amount from these economies, in particular the US and Germany. - China became Australia’s largest source of imports, reflecting Australia’s demand for manufactured imports from China

The changing composition of Australia’s trade:

- Australia’s comparative advantage lies within commodity goods - Together, Agricultural and mineral exports still account for the majority of products exported - Australia, However, has been less competitive in manufacturing and ETM’s - Australia has continued to rely on its primary exports while importing large quantities of capital goods and manufactured

consumer goods. - While the agriculture sector has been declining in relative importance as an export earner, exports of minerals and metals have

increased in relative importance - There has been a large decline in agricultural exports because:

- Large fluctuations in world prices (volatility) - Trade protection policies of other countries - Agricultural trade involves commodity items in which little value is added

- Manufacturing exports face difficult conditions because: - High exchange rate - Increasing competition from goods manufactured in China and other countries with lower input costs ie labour

- Over the years, there has been a shift in Australia’s imports as well: - Share of capital goods remain at 20% of imports - Intermediate goods have declined - Consumer goods as a proportion of imports have steadily increased.

➢ Trends in financial flows - debt and equity

- Growth in financial trade flows has increased due to deregulation - Foregin investment from $46b to $3.2t - Australian investment abroad from $13b to $2.2t - (Portfolio Investment: less than 10%, FDI: more than 10%) - Prior to deregulation of the financial sector, most investment inflow entered as FDI investment - FDI investment brings:

- Jobs - Introduction of new technology

- Portfolio investment is beneficial due to the growing flows of finance into the economy, injecting money into Australian companies through loans and share purchases

- Level of foregin investment has increased since floating AUD and deregulation - Growth of portfolio investment has far outpaced growth of FDI investment

Australia’s Balance of Payments

Balance of payments: - Is the record of all transactions between Australia and the rest of the world during a given period - Consists of the current account and the capital and financial account - Money that flows in = credit - Money that flows out = debit

➢ Structure (Current Account, debits and credits and Capital and Financial account)

The current account: - Shows receipts and payments for trade in goods and services, transfer payments and income flows

Net goods: - Refers to the difference between what Australia receives for its exports and pays out for its imports of goods. - Balance (exports = imports) - Surplus (exports exceed imports) - Deficit (imports exceed exports)

Net Services:

- Services bought and sold

Balance of goods and services (BOGS): - Net goods = (X-M) (negative = trade deficit) - Net services = (X-m) (positive = trade surplus)

Net primary income:

- Refers to earnings on investments/interest - Covers difference between: income inflows and income outflows

Net secondary income:

- Non market transfers e.g. insurance claims

Capital account: - Records the borrowing, lending, sales and purchases of assets between Australia and the rest of the world - Financial inflows have the immediate effect of increasing the supply of foregin exchange to Australia while financial outflows

reduce it.

Capital account: Capital transfers:

- Capital transfers brought in by permanent migrants coming into Australia - Mainly in the form of ‘conditional’ foregin aid and grants - May be in the form of assistance to build infrastructure

Non-financial assets: - Intellectual property

Financial account:

- The financial account shows Australia’s transactions in foregin financial assets and liabilities: - Direct investment - Portfolio investment - Derivatives - Reserve assets - Other investments

Current Account= (BOGS+NPY+SPY) KA/FA= (CA+DI+PI+OI+RA+FD)

➢ Links between key balance of payments categories - Current account + KAFA = 0 - The floating Australian dollar plays a key role of ensuring that there is a balance in the balance of payments. - Under a floating exchange rate, equilibrium occurs when:

- SUPPLY OF AUD = DEMAND OF AUD - Supply of AUD:

- Payment for imports - primary/secondary income transfers overseas (debits) - Capital and financial outflow

- Demand for AUD: - Sales of export goods and services - primary/secondary income transfers from overseas (credits) - Capital and financial inflows

BOGS + Net Incomes = F/K inflows - F/K outflows Therefore, CAD = KAFA surplus The NPY part of the current account

- A capital and financial account surplus results in a larger NPY account - Therefore: an increase in surplus leads to increase in NPY account

- This is because any foregin financial flow that comes in to Australia must earn a return for its owner that is recorded as a debit (outflow) on the primary incomes account.

- International borrowing: - Contributes to NPY deficit as servicing costs are added to foregin debt (recorded in NPY)

- Foregin investment; - Returns on equity investment are recorded on the NPY account

➢ Trends in size and composition of Australia’s BOP

- Highlights the imbalances in the relationship between Australia and the global economy - Influences consumer and investor confidence - Australia’s CAD is amongst the highest of all advanced economies - Been in deficit for 27 years

- Fluctuates from 3-6% - Long term trend: 4.7% of GDP since 2000’s (2014) - 2007-08 = 6.2% of GDP (record) - blowout - Smallest in recessions: Highest in booms

Causes of Australia’s CAD

- Cyclical factors: variations in the level of economic activity i.e. commodity prices, TOT, value of $AUD - Structural factors: underlying and persistent influences on BOP

Cyclical causes:

- International Business Cycle: affects demand for Australian exports - Terms of Trade: global commodity prices decrease, export revenue decreases - Falling domestic income levels: decreased import spending improves BOGS - Exchange rate: A lower dollar will increase export competitiveness but also increase the $AUD value of interest repayments of

foregin debt, worsening NPY - valuation effect - Company profits: profits are distributed as dividends to foregin shareholders, worsening NPY deficit, a falling TOT reduces

dividend outflows (decrease in profits) improving the NPY deficit - Global interest rates: lowering interest rates should decrease income payments on Australia’s net foregin debt thus improving

the NPY deficit - Terms of Trade: A strong TOT should lead to a trade surplus because we are getting more money for our exports, while paying

relatively less for our imports thus improving the CAD, this is often offset by an appreciation in the $AUD

Structural causes: - Australia’s current account is in persistent deficit due to structural factors, which contribute to a persistent deficit on the net

incomes account, and with a tendency to run a deficit on the BOGS - Narrow export base (products and markets): low value-added goods are exported but high value added goods are imported =

BOGS deficit. - Low international competitiveness: particularly in exports has prevented a diversification of exports - Capacity constraints: capacity constraints at ports have prevented an increase in export volumes, this prevents exporters from

taking full advantage of commodity demand - Low national savings

- Consenting Adults: As long as capital inflows from overseas generate enough returns to pay servicing costs, CAD is not a

worry - Not a problem if you borrow to invest

*Important and confusing things*

Appreciation of AUD: - Appreciation of AUD = expensive exports

- An appreciation in the AUD means that the AUD is worth more, therefore a country has to pay more of their currency to by $AUD1, expensive exports for overseas lead to low international competitiveness therefore reducing the BOGS worsening the CAD.

- Appreciation of AUD = cheaper imports - An appreciation in the AUD means that the AUD is worth more, therefore one $AUD1 is equal to more of a foregin

currency. Therefore we can buy more of the foregin currency with the same amount of AUD allowing Australia to access cheap imports (compared to before). This reduces BOGS and decreases the CAD

- Appreciation of $AUD = less overseas repayments - AUD appreciates = AUD is worth more = $1 is equal to more of the foregin currency = when we are paying our debt from

the NPY, we essentially buy less foregin currency for the same amount of AUD = we essentially pay less = Reduces NPY deficit = Improves CAD

- Depreciation is Opposite

➢ International competitiveness, terms of trade, international borrowing, foregin investment

International Competitiveness (IC): - International competitiveness refers to Australia’s ability to compete with other countries in international markets - Trends:

- IC has fluctuated - Appreciation of $AUD since 2001 (US$0.47) has reduced IC of Australia

- Labour costs due to microeconomic reform have fallen helping offset the loss due to a rising AUD - Recent slowdown in productivity growth

- Cyclical factors: - Exchange rates

- The exchange rate affects the international competitiveness of Australia’s exports and the relative price of the goods and services that Australia imports

- Depreciation (post mining boom) decreases the foregin currency price of Australia’s exports, increasing the IC of Australia’s exports on world markets, seeing a growth in exports improving BOGS

- Depreciation also increases the Australian dollar price of imports, discouraging consumers to purchase imports

- However, the constant appreciation reduces Australia’s international competitiveness in manufactured and service exports

- The depreciation during the GFC helped lift competitiveness - International Business cycle

- Changes in the international business cycle also affect demand for Australia’s exports - Recently, Australia’s major trading partners experienced rapid rates of economic growth - GFC only had a short term impact on the value of Australian exports

- Structural factors: - Australia has a narrow export base, having a comparative advantage in low value added products

- It lacks international competitiveness in manufacturing - Importing high value added products such as consumer goods and capital goods

- Import payments often outstrip export revenues - The agricultural sector has been declining as global trade has shifted to manufactured goods and services

including ETM’s as opposed to STM’s - It is easy for many developing countries to produce agricultural exports - Agricultural commodities are also subject to high levels of protection

- Too much concentration on emerging economies - should be looking at other economies as well - Only a small proportion of Australia’s services are exported, with half coming from tourism - There are concerns that out heavy reliance of natural resources is economically unwise as fossil fuels are a major

contributor to greenhouse gas emissions that cause climate change - Australia also has poor transport infrastructure, which is regarded as a capacity constraint.

- Australia has only been able to experience slight growth in export volumes because road and rail networks are inefficient and there is low capacity at ports.

- Links between IC and the BOP:

- IC has a big impact on BOGS - If IC rises, export revenues ruse and imports likely fall = improves CAD - This flows onto the primary income account. More money from trade = less need to borrow from overseas to

finance the CAD and to fund domestic economic expansion = decrease in foregin liabilities and interest repayments

- A fall in IC means exports decrease and imports increase = less overseas borrowing, improves servicing costs, improving NPY deficit, improving the CAD

Terms of Trade (TOT):

- Refers to the relationship between the price a country receives for its exports and the price it pays for imports - Only measures price not volume

- Terms of Trade Index: x100export price indeximport price index

- If export prices rise in comparison to import prices, Australia’s TOT is said to improve - I.e. we can buy more of the same amount of imports using less exports or, the same level of exports

- This should improve BOGS as export incomes rise faster than import expenditure, thus improving CAD

- Since the 1950’s, Australia has experienced a steady decline in TOT - Decrease in commodity prices contributed to the decline of TOT - Increase in manufactured goods prices worsened TOT as we import most of these products

- TOT has been improving over the last decade. Export prices are increasing relative to import prices which results in an improvement of Australia’s TOT

- This was seen between 2000-2010 (mining boom) when Australia’s TOT almost doubled (120+, 140 year high) due to global commodity prices

- A rising TOT causes an appreciation in the AUD, encouraging positive speculation - This weakened the international competitiveness of Australia’s non-commodity exporters including manufacturers

and services causing non-commodity revenues to decrease

- - Causes of a higher TOT:

- Since they measure export prices relative to import prices, anything that causes a change in either will cause the TOT to change

- Changes in export prices:

- Changes in global demand - Changes in costs of production - Inflation - Efficiency of producers - World commodity prices

- Changes in import prices: - Economic conditions in import countries - Value of $AUD - Protection levels - International competitiveness of other countries

- Effects of a higher TOT - Recently Australia’s TOT improved because of a boom in commodity prices

- This makes the mining sector very profitable attracting foregin investors (financial inflow) leading to a (primary incomes deficit) worsening NPY - worsening the CAD

- If the TOT improves, and Australia continues to have a similar volume of exports and imports, it will receive more export revenues and spend less on imports, Improving BOGS

International borrowing:

- Foregin Debt is the total amount of money Australia owes debtors around the world - Includes individual, business and government debt - Measured as a percentage of GDP - Foregin debt has been steadily increasing (60% of GDP)

- Structural factors: - An underlying structural characteristic of Australia’s economy is the large savings and investment gap. Australia

has low levels of national savings, but out major export industry requires enormous amounts of capital investment. A large portion of this is funded through international borrowing.

- Increased international borrowing increases foregin debt, thus increasing foregin liabilities. This leads to higher servicing costs leading to a larger outflow on the NPY thus worsening the CAD.

- Australia’s foregin debt has been growing rapidly

- Between 1976-2010 net foregin debt increased from $3b to $672b or 4-53% of GDP - Makes it difficult to reduce CAD - Difficult to offset NPY deficit through BOGS surplus

- Trend towards equity over debt helped stabilise Net foregin debt in the mid-late 90’s - Cyclical factors:

- Size of interest repayments influenced by changes in exchange rates - Appreciation in dollar would decrease the currency value of debt denominated in a foregin currency

- Domestic and global interest rates - Decrease in domestic/global interest rates would reduce the value of interest repayments

- Effects on the balance of payments account: - International borrowing consists of debt and equity borrowing, since Australia has a persistent CAD, it

must be financed by a surplus in the capital and financial account through international borrowing - The NPY deficit has increased from -$19.3b (07-08) to -$49.2b (09-10) - However, reflecting the effect of lower global interest rates, the NPY deficit account improved during the

GFC from -$49.5b (07-08) to -$45.4b (09-10) - The financial account surplus increased from $20.2b (07-08) to $40.5b (08-09)

- Foregin Investment

- While inflows of foregin investment contribute directly to the surplus on the KA/FA account, interest repayments on foregin debt or dividend repayments on foregin equity are a major cause of the NPY deficit.

- An appreciation of the $AUD will decrease the $AUD value of debt denominated in foregin currencies, decreasing the value of Australia’s debt. However, this valuation effect only has a small impact because the lender and borrower usually agree to fix the exchange rate, reducing the volatility

- A decrease in domestic and global interest rates decreases the value of Australia’s interest repayment obligations, Improving the NPY deficit

- An upturn in the domestic business cycle results in higher equity servicing costs - Company profits increase, so do dividend repayments

- Commodities boom lifted profits in the domestic resources sector, allowing mining companies to increase dividend payments to overseas

➢ ➢ Effects of these trends on Australia’s balance of Payments

- The consequences of a high CAD - Australia persistently records a high CAD - Not of great concern as any external imbalances are simply the result of normal market transactions in the global

economy

- A high CAD can be beneficial because borrowing from overseas can increase investment and help the economy grow faster

- Risks associated with a high CAD - The growth of foregin liabilities - Exchange rates become more volatile as CAD undermines the confidence of overseas investors. REducing demand

for Australia’s currency may result in a depreciation of the AUD - Constraint on future economic growth - the BOP constraint is the extent to which an economy’s capacity yo grow is

constrained by its need to keep serving the CAD at a sustainable level - More contractionary government policy - governments may use together Macro policy and an acceleration of micro

reform to lower CAD, decreasing growth in the short term - High CAD’s are vulnerable to dramatic shifts in investor sentiment - there can be a sudden loss of international

investor confidence - Why the CAD is not too concerning

- In an era of globalisation, financial markets have been more willing to accept external imbalances, since these imbalances have not stopped Australia from sustaining 22+ years of economic growth

- There is confidence that Australia’s natural resource wealth will underpin continued strong export growth, allowing Australia to service its foregin liabilities

- CAD as a major risk - A high CAD creates an ongoing strain on the external account, and Australia is dependant on continuing financial inflows

to fund the servicing costs of its high foregin liabilities - A country may be able to sustain external imbalance for many years before it suddenly finds that the external imbalance

is a major economic problem Exchange Rates ➢ Measurement of relative exchange rates

- To other individual currencies - Trade weighted index

- Trade Weighted Index (TWI) - The TWI is a measure of the value of the AUD against a basket of currencies of major trading partners

- Weighted according to their significance of Australia’s trade flows - The currencies of the countries that are prominent in Australia’s trade are given a higher weighting so that they

have a greater influence on TWI - Significance of the exchange rates with the YEN and USD have declined - whilst RNB has become more

important - A limitation to the TWI is that exchange rate movements are weighted according to volumes of trade regardless of

the currency in which export and import contracts are invoiced in. ➢ Factors affecting the demand for and supply of Australian dollars

- Floated in December in 1983 - Floating exchange rate: when the value of the currency is determined by market factors - Demand: (represented by those who wish to purchase $AUD)

- Size of financial inflows from foregin investors who need to convert currency into AUD. - High domestic Interest rates: attract foregin savings, increasing demand for AUD - Expectations that the AUD will appreciate in future: Increasing demand for AUD by speculators

- Demand for Australia’s Exports: since foreigners need to convert their currency into AUD to pay Australian exporters - Rise in commodity prices and improvements in terms of trade - High level of International competitiveness and relatively low inflation rates make Australian exports cheaper

and more attractive - Positive global economic conditions will increase the demand and prices of Australia’s exports - Taste and preferences also affect demand for imports

- Supply: (represented by all who wish to sell AUD) - Size of Financial outflows by Australian investors who need to convert AUD into foregin currency

- Relatively low domestic interest rates: increased attraction to invest overseas, increasing the supply of AUD - Higher opportunities to start businesses overseas or to purchase shares overseas

- Expectations that AUD will depreciate further: increased supply of AUD by speculators - Domestic demand for Imports since Australian importers will need to sell AUD to make import payments in foregin

currencies. - Higher levels of domestic income will increase demand for imports - When domestic inflation is high and import competing firms are relatively uncompetitive, imports are relatively

cheaper - Increasing preferences for goods and services overseas

➢ Changes in exchange rates - appreciation/depreciation - Appreciation

- Increased domestic interest rates or decreased international interest rates - Increased investment opportunities in Australia - Increased commodity prices and TOT (AUS)

- Increased IC (AUS) - Decrease in inflation in Australia - Increased demand for Australian exports - Expectations of appreciation based on forecasts

- Depreciation - Decreased domestic interest rates or increased international interest rates - Decreased investments opportunity in Australia or increased investment opportunities overseas - Decreased Australian commodity prices and TOT - Decreased IC - Increased inflation in Australia - Increased demand for Australian imports - Expectations of depreciation based on forecasts

➢ Determination of exchange rates including fixed, flexible and managed rates - Fixed Exchange rate:

- Australia had a fixed exchange rate prior to 1976 - RBA officially set exchange rate - Government maintains a fixed exchange rate by either selling or buying foregin currency for AUD

- This requires foregin reserves - Could also change exchange rate by revaluing or devaluing the AUD - Problem:

- If a country exhausts its foregin reserves, there could be a complete collapse of trade - Marginal flexible peg:

- From November 1976 - December 1983, Australia had a managed flexible peg exchange rate - AUD would be valued by the RBA every morning

- Floating exchange rate: - Clean float: law of supply and demand determine an equilibrium exchange rate

- Large fluctuations can occur over a short period of time - Dirty float: the central bank makes a concealed intervention into the foregin exchange market to manipulate the

exchange rate ➢ The influence of the RBA on exchange rates

- The RBA can prevent or slow down fluctuations in the AUD - Dirtying the float:

- RBA can buy or sell AUD to stabilise large fluctuations in a small time frame in the exchange rate - Buying AUD will put upward pressure on the exchange rate, slowing a rapid depreciation of the currency

- Selling AUD can prevent rapid appreciation - RBA’s ability to intervene is limited due to its small size of foregin currency holdings

- Monetary policy decisions: - Rarely used for the purpose of indirectly influencing exchange rates - Theoretically, raising interest rates will attract more foregin savings, increasing demand for AUD

- This upwards pressure on the exchange rate slows depreciation ➢ The effects of fluctuations in exchange rates on the Australian economy

- Australian economy: - A disequilibrium in the BOP is only temporary because it is corrected by a movement in the exchange rate - True supply and demand forces results from exchanges of goods and services and finance between Australia and

overseas - Positive effects of an Appreciation:

- Interest servicing costs on Australia’s foregin debt decrease and the AUD value of foregin debt borrowed in foregin currencies is reduced, reducing the outflow on the NPY

- Imports are cheaper, reducing inflationary pressures and increasing purchasing power of Australians - Negative effects of an Appreciation:

- Cheaper imports will encourage import spending, reducing economic growth and worsening the CAD - Decrease in export income as it is harder to sell more expensive imports - commodities above world price - AUD value of foregin income is reduced and value of foregin assets in Australian dollar terms is reduced, deteriorating

the NPY - Lower financial inflows as it is more expensive to invest in Australia

- Positive effects of a Depreciation: - Increase in export income as exports are cheaper on world markets - More expensive imports discourage import spending + greater export revenue increases domestic growth rates - AUD value of foregin income is increased and the value of foregin assets assets in Australian dollar terms increase,

improving NPY thus decreasing the CAD - Greater financial inflows as it is less expensive to invest in Australia -

- Negative effects of a Depreciation: - Interest servicing costs on Australia’s foregin debt is increased and AUD of foregin debt borrowed in foregin currency

increases, increasing outflow on NPY - Imports become more expensive, increasing inflationary pressures and reducing purchasing power of Australians -

Free trade and protection ➢ Australia’s policies regarding free trade and protection

- Australia was one of the most protectionist countries in the world. - Governments felt the need to protect Australian manufacturers who found it difficult to compete due to low population and

low production runs in Australia - Gradual decline in the average tariff levels since the 1960’s

- 1973: Whitlam introduced 25% across the board cuts in protection - 1991: PMV tariffs to 15% from 40% by 2000 - 1991: TCF tariffs to 25% from 65% by 2000 - 2016: average tariff levels less than 1.5% (from 36% in 1960’s)

- By reducing protection: - Domestic industries are forced to be more internationally competitive as they are exposed to competition with imported

goods - improves our trading performance - Resources are encouraged to be reallocated from industries and firms that cannot improve their competitiveness or

efficiency, thus focusing on areas in which Australia has a comparative advantage - Consumers and businesses are given access to goods at the lowest possible prices - increased living standards - Promotes structural change in the economy, encouraging efficient firms to produce what the economy demands

- Currently half of imported goods are tariff free - Manufactured goods are subject to less than 5% tariff

➢ Australia’s multilateral and bilateral free trade agreements - Bilateral trade agreements

- Easier to negotiate as they can be designed to suit the conditions of the two participants - Bilateral agreements generate fewer economy-wide benefits than broad trade liberalisation - AUSFTA

- 2006 - Australia- United States FTA - Tariff reductions in agriculture and manufacturing

- Multilateral - AANZFTA - 2010 - ASEAN - Australia - New Zealand FTA

- 21% of Australia’s trade - Free trade area of over 2.6 billion people - Combined GDP of $US 3.1T

- Commodities are heavily demanded by south east asian economies - In return, SE ASia manufactures STM’s that Australia can simply not produce competitively - Boost Australian economy by $US19b

➢ The implications of Australia’s policies for individuals, firms and governments - Implications of reduced protection

- As a result of trade liberalisation, Australia has seen a huge restructuring of its economy over the past 30 years - Effects of individuals:

- Structural unemployment associated with the restructuring of industries and cuts in local production are increased. E.g. closure of car plants and

- Employees limited skill and jobs are not easily transferred - Retraining programs to help match skills to job programs - Lost employment opportunities are recouped by growth to more internationally competitive sectors - Individuals all benefit in their role as consumers

- Lower trade barriers enable consumers to buy and use a wide variety of goods and services at a lower price - Improved living standards

- Higher quality of international goods - Effects on Firm’s:

- Import-competing industries will shrink and production in some sectors will stop all together - Businesses may restrict or limit their operations - Local industries are forced to become efficient and innovative - Lower tariffs = lower input costs

- More internationally competitive - Since reduced protectionism:

- Overall growth in export volumes - High integration with global economy

- Effects on Government: - Cutting Tariffs reduces government revenue

- Long run: sustainable economic growth should raise revenue - Government spending on structural adjustment increases - Political consequences ( generally unpopular policy)

➢ Implications for Australia of protectionist policies of other countries and trading blocs - Implications:

- Countries enforcing tariffs on Australian goods and services reduce the competitiveness of Australian exports, which then struggle to penetrate foregin markets. Subsidising exports raises the supply and reduces the prices of goods on global markets.

- International protectionism reduces the output of the Australian economy - In terms of agricultural trade, Australia suffers a significant disadvantage to their counterparts in the rest of the

industrialised world, as highly protectionist agricultural nations have continued to use loopholes to avoid freeing up agricultural trade

- EU heavily subsidised agriculture - Non- agricultural goods, such as the mining and resources sector, face fewer barriers. These products are in very high

demand, and countries importing these resources do not have their own resources to produce domestic alternatives. Imposing Tariffs on Australian resource exports would only raise costs for consumers and businesses

- Manufacturing industries also face few barriers, since there has been a substantial reduction in industrial tariffs that have been negotiated through multilateral trade agreements. However, non-tariff barriers such as technical restrictions and licensing can act as disguised barriers to trade

- Service industries face the most prohibitive barriers to trade. Natural barriers are caused by geography, transport costs, languages and cultural tastes and preferences. Government regulations and practices also reduce services trade.

- Government procurement rules, policies and procedures for purchasing goods and services for the use of government and public trading enterprises are sometimes imposed:

- Financial services: restriction on foregin ownership of banks - Construction services: mandation to use local supplies - Utility services: government monopolies ie. power, water, gas

TOPIC 3: ECONOMIC ISSUES Economic growth

➢ Increasing size of the economy (money value of the economy’s output) ➢ Importance = more g/s produced for the people of the economy = satisfy more wants, solve the economic problem + improve living

standards ➢ Measurement = GDP (value of all goods and services produced in a year), increased income, increased expenditure ➢ If output increases, more factors of production are being utilised and more people are being paid to produce ➢ Therefore increased output = increased incomes, increased incomes = more to spend = increased expenditure

Calculating economic growth:

➢ Year 2 - Year 1 / Year 1 X 100

What determines GDP:

➢ Quantity bought/sold ➢ Determined by supply and demand (market forces) ➢ Quantity that consumers buy = quantity that consumers make (equilibrium) ➢ Aggregate demand + aggregate supply (equilibrium) = GDP ➢ AD = total level of demand in an economy ➢ AS = total amount of supply in economy ➢ Any increase in AD or AS will have an increase in GDP ➢ AD = C + I + G + (X-M) ➢ AS = income ➢ Increased growth = when there are more injections (expenditure, investment, exports) ➢ Leakages = imports, savings, taxation (decrease demand for production, decreased spending and therefore decreased economic

growth) ➢ Equilibrium: leakages (M + S + T) = injections (X + I + G) ➢ Growing economy = injections > leakages ➢ Shrinking economy = injections < leakages

The simple multiplier:

➢ AD = C + I + G + (X-M) ➢ When any components of AD change, the value of AD overall has a greater change than the individual change ➢ e.g. if I increases by 10, AD will increase to 40 if the multiplier is 4

How the multiplier works/formula

➢ K = 1/MPS ➢ When money is spent in the economy, people who receive money spend it on something- further influence on AD ➢ Further influence on AD ➢ e.g. if I spend $100 at a clothes store, the clothes store may spend $80 and save $20. This would add another $80 on top of the $100

already there. Store receiving that money either spends or saves it, which adds more to consumer spending ➢ Initial injection into the economy results in a bigger overall amount of spending in the end ➢ Less money that gets saved = greater effect ➢ Multiplier = magnitude of this effect

Importance of the multiplier:

➢ Demonstrates how change in government spending has a greater effect on increasing GDP than the size of the increase in spending ➢ If interest rates decrease, people consume more and save less: reward = savings goes down ➢ Interest rate decreases = MPC increases (people consuming more of their incomes) ➢ If interest rates go down, and government spends, it will be effective because the multiplier will be larger

Advantages of economic growth:

➢ Improved living standards- if the economy can produce more goods and services, then more people’s wants will be satisfied, and living standards will increase

➢ Growth has to be faster than a growth in population for living standards to increase ➢ Increased employment opportunities- no employment = no income (growth decreases unemployment) ➢ Labour is a derived demand: demand for labour depends on demand for all goods and services in the economy ➢ Produce more = require more labour ➢ Output increase = increase employment opportunities ➢ Increase taxation revenue- “growth dividend”: economic growth increases -> income increases -> people move up tax brackets and pay

more taxation

➢ Government spending to increase growth -> increased tax revenue to spend somewhere else

Disadvantages of economic growth:

➢ Growth is only a problem when there’s something wrong with the type of growth e.g. it’s growing too fast, unevenly distributed or abuses the environment

➢ Inflationary pressures- when demand side growth is too rapid ➢ Equilibrium price is higher when aggregate demand increases without any increases in aggregate supply ➢ Increased price = increased inflation ➢ When aggregate supply shifts outwards, inflation decreases again ➢ AD growth is therefore faster growing than AS ➢ We don’t want growth thats faster than 3-4%, otherwise inflation occurs and need for contractionary macroeconomic policy e.g. cut

interest rates must be instigate

Causes of economic growth:

➢ Supply: Increases in AS = determined how many resources/FOP it has as well as how efficiently it uses them ➢ Demand: any increase in C, I, G, (X-M) impacts

Australia’s economic growth history:

➢ Exceptional performance in long term ➢ Unparalleled success in terms of EG, no recessions + growth averaged 3—4% ➢ Prior to this = Australia suffered low growth rates and higher volatility in terms of growth (more susceptible to changes in the business

cycle) ➢ AS rose in 80s and 90s due to microeconomic reforms ➢ Rise of China and increase trade relationships with the SE Asian nations- their fast growth has meant an increase in demand for

Australian exports ➢ Globalisation and increased investment/trade flows ➢ 2002-2008 = growth characterised by the commodities boom (due to high consumer confidence, investment, export income) ➢ Growth rate = 3.7% in 2007-08 ➢ Chinese industrialisation = increased price and volume of exports ➢ Increased investment to support the mining boom ➢ Strong demand side growth- growth continued despite contractionary fiscal and monetary policy to slow economic growth and limit

inflation ➢ Interest rate raised to 7.25% and increased budget surpluses ➢ GFC = global reduction in consumer confidence and investment resulting from overly risky and unregulated lending

Unemployment

Unemployment rate:

➢ Number of unemployed people/labour force X 100% ➢ Unemployed person = looking for work but can’t find work ➢ Someone who isn’t looking for work = “hidden unemployment” ➢ Labour force = sum of employed + unemployed people in the economy

Labour force participation rate:

➢ Proportion of the working age population willing to work ➢ Indication of how many people aren’t willing/unable to find work ➢ Reasons for not working:

○ Lack of confidence in the labour market ○ Discouraged from entering the labour force ○ Lack of skills ○ Looking after children ○ Wanting a break from work

➢ Anyone who is not in the labour force is not included in the unemployment rate ➢ Sometimes changes in the UE rate don’t accurately indicate changes in availability of work/ability of population to work ➢ Labour force participation rate = labour force / total working age population (15-64 years)

Types of unemployment

➢ Cyclical: Caused by insufficient economic activity ○ Low demand for g + s = low demand for labour (derived demand) ○ Weak economic conditions = buying fewer g + s = fewer sales = cut back on workers ○ Okun’s law = to reduce unemployment, the annual rate of economic growth (e.g. 5%) must exceed the sum of the rate of

productivity growth and labour force increases ➢ Structural: Results from a mismatch between labour skills of employees and the vacancies offered by firms

○ e.g. Australian passenger motor vehicle industry shuts down. 50,000 employed people then become unemployed because their skills are no longer needed in the field.

○ Caused by structural changes in the economy ○ e.g. shift from manufacturing to services due to the closure of manufacturing plants because of high labour costs

■ Export base ■ What is required for the economy

○ Technical innovation also causes structural unemployment ➢ Frictional: in between

○ Caused by people moving between jobs ○ People moving jobs to find better opportunities ○ Women re-entering the workforce after taking maternity leave ○ When workers are jobless, but looking for work

➢ Seasonal: ○ Caused by certain jobs not being available at certain times of the year ○ e.g. fruit picking, dressing up as Santa for shopping centres at Christmas

➢ Underemployment ○ Those who want to work more hours ○ Not counted in the official unemployment statistics ○ 2016 = 8.7% of the workforce were underemployed ○ Increasing underemployment due to casualisation

➢ Hidden unemployment ○ Refers to those not officially counted in the unemployment statistics ○ They have given up looking for work ○ “discouraged job seekers”

➢ Long term ○ Those who have been unemployed for over 12 months ○ Increased by 18% in the last year ○ Makes up 23% of unemployed people

➢ Hardcore ○ Refers to people who experience chronic periods of long term unemployment ○ Due to personal difficulties

NAIRU

➢ Natural rate of unemployment: when the economy is operating at full capacity, without cyclical unemployment ➢ Non-accelerating inflation rate of unemployment : 5%, the rate of unemployment that is consistent with a constant inflation rate ➢ UE < NAIRU = inflation rises ➢ More workers in the economy = more consumers which will increase the price of goods and services - typically occurs during high

economic growth ➢ UE = NAIRU - inflation rate is stable between 2-3%

Phillips Curve:

➢ Stating that inflation and unemployment have a stable and inverse relationship ➢ With economic growth comes inflation ➢ Higher economic growth = more jobs and less unemployment ➢ High inflation = low unemployment ➢ 5% inflation = 3% unemployment ➢ Lower inflation = higher unemployment

Effects of unemployment:

ECONOMIC COSTS SOCIAL COSTS

Opportunity cost: - Resources are not being fully utilised - Production is sub-optimal - Lower economic growth

Increased inequality: - Unemployment tends to occur among low income earners

who may fall into poverty

Lower living standards: - Less production = less economic growth - Constraint on national income - Less money available for people to buy goods and services - Less choice and therefore lower living standards

Discrimination: - Unconscious bias when employers are hiring

Costs to the government: - Less income tax revenue - More transfer payments being made - Expenditure must be financed through savings or borrowings

Loss of self esteem and dignity: - Reduced motivation to search for jobs - Lack of motivation to undergo training

Groups affected by unemployment:

➢ Youth ○ Employers seek workers with great skills and experience ○ Young workers lack skills and training ○ Best way to aid young people = increase school retention rate (ensuring more people complete year 12)

➢ Indigenous Australians ○ Experience high UE rates ○ 3 X higher than non Indigenous

➢ Age related ○ UE higher amongst young Australians ○ 15-19 y/o who are in the labour force face unemployment of 15.9% ○ Older workers have great difficulty finding employment

➢ Specific regions ○ UE in capital cities = 5.7% ○ Non-metropolitan areas = 6.4%

➢ Recent immigrants ○ Slightly higher UE rates ○ Language barrier ○ UE rate for those born overseas = 5.4% ○ 5.2% = Australian born residents

Inflation

Measurement:

➢ Measured using changes in CPI ➢ CPI measures price movement of a basket of goods and services weighted according to average household consumption ➢ Current CPI - Previous CPI / Previous CPI X 100 ➢ Headline inflation: all prices in the CPI, including volatile price changes ➢ Underlying inflation: removes highly volatile changes such as seasonal objects

Causes:

➢ Demand pull ○ When demand for goods and services increases with no change to supply ○ AD > productive capacity ○ Demand > supply ○ On graph, AD increases from AD to AD1 ○ Prices also increase- causing inflation

➢ Cost push ○ Price of input increases ○ Producers must increase the price of the final good or service ○ Increased cost of production = increase on costs = increased prices for consumers ○ Increase in cost of production = decrease in supply, AS decreases from AS-AS1

➢ Expectations ○ If inflation is expected to rise, individuals will protect themselves by buying more now ○ Inflation reduces purchasing power ○ People buy now because they think prices will be cheaper, however this creates increases in demand for goods and services

and thus creates demand pull inflation

➢ Imported ○ Increase in price of imported goods = increased inflation ○ Increased inflation in another country = buying their goods more expensive, and thus domestically they are sold for a higher

price ○ Depreciation in the AUSD = can buy more with our currency, more imports for the same price = higher inflation

Effects of inflation:

➢ Decreased purchasing power ➢ Constrained economic growth because of inflation target ➢ Unemployment (labour is a derived demand) ➢ Wages- seek wage increases so purchasing power doesn’t decrease- inflationary wage price spiral ➢ Increased income distribution due to amount of bargaining power ➢ International competitiveness- increase in price makes exports more expensive

External Stability

Measurement:

➢ CAD as a percentage of GDP ➢ Deficit must always be at a sustainable level ➢ Must be able to pay off the debt without jeopardising internal stability ➢ Net foreign debt as a percentage of GDP- funds borrowed from overseas that must be paid back with interest ➢ Net foreign liabilities as a percentage of GDP- difference between foreign assets (debt and equity) and liabilities (debt and borrowings

from overseas) ➢ Exchange rate: impacts confidence in Australia for investment, goods and services

Causes:

➢ Main influence on external stability is CAD ➢ BOGS- structural (narrow export base, capacity constraints), cyclical (international competitiveness, terms of trade, domestic and global

growth rates) ➢ NPY- structural (savings and investment gap, accumulated debt), cyclical (domestic business cycle, domestic and global interest rates) ➢ Exchange rates- structural (speculation, investment opportunities), cyclical (commodity prices, demand for exports/imports)

Effects:

➢ Creation of employment: borrowing allows businesses to fund investment ➢ Pitchford thesis: overseas liabilities are acceptable if they are used to fund investment into industries that create money to pay back the

loans ➢ Constraints economic growth: high levels of debt must be repaid ➢ Exchange rate volatility: unstable exchange rate does not reflect true value of currency ➢ Growth of foreign liabilities: leads to higher debt, debt can only be repaid by borrowing from overseas ➢ Higher servicing costs: high instability and risk

Inequality

Measurement:

➢ Income = amount of money a person earns each year for owning, maintaining and managing productive resources ➢ Wealth = the monetary value of assets that are currently owned ➢ Distribution of income and wealth = refers to the degree of inequality of which income and wealth is distributed amongst the people in

the economy ➢ Lorenz curve = graphical representation of income distribution ➢ Gini co-efficient = numerical measure of income inequality calculated using : A/A + B ➢ Higher number = greater distance between line of equality and distribution line = greater the inequality

Sources of income:

➢ Wages = use of human capital to work -> earning a wage or salary. This also includes non-wage incomes ➢ Rent = land gained from property or natural resources owned by the individual e.g. renting a house ➢ Earnings from capital = earning income from investment e.g. superannuation, dividends, interest ➢ Transfer payments = payments made by the government to assist people with basic costs of living e.g. aged pension, unemployment

benefits

Sources of wealth:

➢ 2 main sources of wealth = superannuation and property ➢ OECD ranks AUS 11th most unequal out of 34 countries ➢ 2015 = highest 20% of income earners were 5 X richer than the poorest 20%

Demographics most affected:

➢ Gender ○ Women are often discriminated in the workplace “glass ceiling” ○ Women inhibited from reaching top positions due to the possibility of them taking leave to raise a family ○ Unconscious biases prevent women from getting jobs

➢ Age ○ People earn most between 25-64 ○ People gain experience and qualifications before 25 in order to gain higher incomes ○ Retirement = people earn considerably less -> many rely on aged pensions

➢ Occupation ○ Higher qualifications = higher income ○ No qualifications = less money -> not much knowledge required, can be easily replaced

➢ Family structure ○ Couple with no children = $1085 ○ Couple with children = $960 ○ Single parent = $618 ○ Single person = $895

➢ Ethnic background ○ Face discrimination and bias ○ Non-english speaking migrants = lower income levels than Australian born ○ 25% of workers are from overseas

Costs and benefits of inequality:

➢ Benefits ○ Incentive to upskill ○ Incentive to become more productive ○ Incentive to mobilise ○ Potential for savings ○ Promotes social values

➢ Costs ○ Decreased utility ○ Decreased economic growth ○ Conspicuous consumption ○ Increased welfare support ○ Social class division ○ Discrimination ○ Living with high inequality ○ Poverty

POSSIBLE ESSAY SCAFFOLD

Introduction

➢ Define- the difference in how assets, wealth or income are distributed among individuals and/or populations ➢ The inequality of an economy often refers to the distribution of income and wealth across the population ➢ Australia has a higher level of inequality than most OECD countries

➢ Income Inequality in Australia has increased between the 1990s, and in recent years, with a gini coefficient of 0.29 in 1992 increased to around 0.33.

➢ Similar trends in wealth inequality from gini of 0.86 in 1915 to 0.52 in 1967 and has averaged around 0.60 since the 60s ➢ Income inequality= degree to which income is unequally distributed across the economy ➢ Income inequality is measured by its gini coefficient, where it is given by the formula A/A+B or graphically shown on the lorenz curve,

where the further the curve is from the ‘line of equality’, the greater the degree of income inequality in that economy

Cause 1: Gender

➢ Women are often discriminated in the workplace ➢ They are inhibited from reaching top positions due to the possibility of them taking leave to raise a family ➢ Unconscious bias prevent women from getting jobs ➢ The January 2019 labour force statistics indicated that there are 5,983,900 women employed in Australia, which is a 2.4% increase over

the last 12 months. ➢ Women working part-time account for 68.7per cent of all part-time employment. ➢ The female unemployment rate as at January 2019 is 5.2%, down from 5.6% recorded 12 months ago ➢ For females, the most recent rate of underemployment was 10.4% in January 2019. This compares with a male underemployment rate

of 6.2%.

Cause 2: Age

➢ People earn most between 25-64 ➢ People gain experience and qualifications before 25 in order to gain higher incomes ➢ Retirement = people earn considerably less -> many rely on aged pensions ➢ Income lower in earlier years of life because people have less education and experience, and hold lower paying jobs

Cause 3: Ethnic and cultural background

➢ Face discrimination and bias ➢ Non-english speaking migrants = lower income levels than Australian born ➢ 25% of workers are from overseas ➢ Higher incomes for recent migrants from New Zealand, UK, US, Canada etc reflect the large proportions of people who are highly skilled

and educated

➢ Family structure

○ Couple with no children = $1085 ○ Couple with children = $960 ○ Single parent = $618 ○ Single person = $895

Environmental stability

Ecologically sustainable development:

➢ Trade off between economic growth and environmental sustainability (increased growth/production = increased resources) ➢ Ecologically sustainable development = level of economic growth compatible with long-term preservation of the environment ➢ Intergenerational equity = future generations should have better quality resources than the previous. The current economy can therefore not deplete too many resources and

must find ways to preserve the current economy ➢ Tragedy of commons = where individuals act according to their self interests at the expense of the common good by depleting or spoiling resources

Private and social costs and benefits:

➢ Market failure = when the price mechanism (equilibrium- no excess demand or supply) fails to take into account the social costs and benefits of production

➢ Private cost = expenditure by producers on factors of production, and costs incurred by consumers in spending their income to buy these goods and services

➢ Social cost = costs imposed on society as a result of private actions ➢ Externality = effect of production (on society)

Public and private goods:

➢ Private goods = includes goods and services that you must pay for. Both excludable and rival ➢ Public good = no direct payment made. Both non-rival and non-excludable ➢ Free rider = an individual or firm that benefits from a good or service without contributing to its funding. Public goods tend to attract

free-riders

Environmental issues:

➢ Preservation of natural environments ○ Land, sea and air quality ○ Environmental damage affects human health ○ Restricts the availability of resources ○ Growth is inhibited

➢ Pollution and climate change ○ Toxic substances are released into the atmosphere through production ○ Air pollution can cause respiratory illness -> jeopardise human capital productivity ○ Increased carbon emissions = contribute to global warming and climate change ○ Changes in weather patterns over time are caused by emission of greenhouse gases ○ Decreased layers of ozone in the atmosphere ○ Inhibit economic growth ○ Must be addressed by the government, but is not of high priority

➢ Depletion of renewable and non-renewable resources ○ Increased economic growth = more resources needed ○ Long term growth = using resources more effectively by increasing efficiency and productivity ○ Renewable resources = resources that naturally replenish themselves in a relatively short period of time e.g. fish, oxygen, fresh

water ○ Non-renewable resources = resources that are not naturally replenished, or not replenished quick enough for human needs

Economic Issues in the Australian economy:

Economic Growth

➢ Aggregate demand and its components: Y=C+I+G+X-M - AD= C+I+G+(X-M) - Aggregate demand: refers to the total demand for goods and services within the economy.

- Influences on consumption and saving:

- Consumption = 60% of aggregate demand - Increase in consumption = increase in expenditure = increase in economic activity - Most important factor influencing consumption in itself - High income = high consumption - Consumer expectations:

- Expectations about future prices and the availability of goods influence consumers’ decisions to spend or save their income

- If they expect prices to rise, higher real income or future shortages = spend more save less - If they expect stable prices, lower incomes, increased availability of goods = spend less save more

- The level of interest rates: - An increase in the general level of interest rates would discourage individuals from spending their money and

therefore encourage them to save, whilst a decrease in interest rates would encourage spending and discourage saving

- Stance of monetary policy - The distribution of income:

- Equal distribution of income = higher rate of overall spending - Unequal distribution of income = lower rate of overall spending - People with lower incomes tend to spend proportionately more of their income than those on higher incomes - Government policies try to raise lower income and reduce higher incomes - this would reduce savings and

increase spending

- Influences on Investment: - Business investment tends to be the most volatile component of demand or aggregate expenditure. - The main factors influencing business investment are the cost of capital and business expectations

- The cost of capital equipment - Changes in interest rates:

- Fall in interest rates = less cost of borrowing = cheaper capital - Rise in interest rates = high cost of borrowing = expensive capital

- A change in government policies: - Relating to investment allowances and tax concessions. Enabling businesses to claim depreciation

on their capital equipment reduces their tax liability, making capital relatively cheaper - Price and productivity of labour:

- Affects relative cost of capital compared to labour - Business expectations

- Expected demand for their products: - Expecting increases in demand encourage entrepreneurs to purchase new capital equipment to

boost production and satisfy demand - General economic outlook:

- Expecting strong economic growth and growing prosperity leads to increased investment in capital equipment

- Inflation: - Leads to uncertainty about future prices and future costs of production, leading to reduced

investment

- Influences on Government spending and taxation - Spending makes up between 20% to 25% of aggregate demand/expenditure, while taxation makes up between 20% to

25% of aggregate supply/income - Increasing expenditure and/or reduce taxation increases aggregate demand and growth. Decreasing spending and/or

increase taxation decreases aggregate demand and growth -

- Influences on Exports and Imports - Equal to 20% to 25% of aggregate demand - Since Australia’s trade balance is usually in deficit, net exports contribute negatively to aggregate demand - Exporters are influenced by the exchange rate, levels of international competitiveness and consumer tastes and preferences

- Weaker exchange rate makes domestic industries more competitive, increasing net exports and adding to aggregate demand

- Stronger exchange rate makes industries less competitive, decreasing net exports and detracting from aggregate demand

- ➢ Injections and withdrawals (I+G+X; S+T+M) ➢ The simple multiplier: k = 1/(1-MPC)

- When savings does not equal investment, the economy is disrupted from its state of equilibrium

- However, Keynes states that the economy will move to a situation where the difference between leakages and injections is eliminated.

- Economy moves to a higher level of economic activity when injection of I > leakage of S and to a lower level of economic activity when injection of I < leakage of S

- The adjustment takes place by the multiplier process - Multiplier: Is the greater than proportional increase in national income resulting from an increase in AD

- Changes in consumer or business expectations, changes in interest rates or changes in government policies will change injections or leakages.

- The multiplier refers to the extent to which an initial change in autonomous expenditure (C+I) is multiplied to give a larger change in the level of national income

- The multiplier is the greater than proportional increase in national income resulting from an increase in AD. it is the number of times the final increase in national income exceeds the initial increase in expenditure

- MPC + MPS = 1 - Multiplier:

- or k = 1MPS k = 1

1−MPC - Amount of additional consumption spending each time will decline until it eventually becomes insignificant - MPS causes the amount of income generated by each successive wave of spending to decrease. The sum of

each successive wave of income generated equals to the total amount by which national income increases - The larger the MPS, the smaller the value of the multiplier - Process also works to decrease AD

➢ Measurement of growth through changes in real GDP ➢ Sources and effects of economic growth in Australia

- Sources: - Global economic conditions have been favourable since the early 1990’s, with lower inflation, lower interest rates, lower

unemployment rates and greater macroeconomic stability worldwide. The extraordinary economic development of China has helped underpin ongoing demand for Australia’s commodity exports, providing a buffer against deteriorating global conditions in 2009.

- A sustained improvement in Australia’s Terms of trade, caused by a combination of rising global demand for commodities and limited supplies has lifted domestic incomes.

- The terms of trade reached is highest level for over half a century in 2008, adding 13% to Australia’s national income - By 2010, terms of trade was double their level in 2000. It rose by 24% in 2009-10, with a further increase of 17% forecast

for 2010-11 - Directly, the resources boom has resulted in higher incomes for mining industry employees and for investors in mining

company shares. Indirectly the boom has helped increase government revenue from company tax, reducing personal income tax

- Economic growth is maintained within a sustainable range that does not push inflation above the target band of an average 2-3% over the business cycle

- Fiscal policy lifts economic growth during economic downturns. In 2008, a major economic stimulus package and additional spending initiatives were provided. The stimulus aimed to boost economic growth by up to 2.75% in 2009-10 supporting up to 210,000 jobs

- RBA’s pre-emptive use of monetary policy and its focus on maintaining low inflation helps avoid the need for large interest rate increases that may cause more prolonged contractions. RBA reduces rates to support AD before actual downturn

- Increases in asset prices increased wealth of households, encouraging greater borrowing and consumption. Wealth effect, however, has recently been reduced with decreased asset prices in the housing market

- Productivity growth reached record levels in the 1990’s. Growing from an average of 1.2% in the 1980’s to 2.1%, averaging 2.6% per year in the 1990’s. Micro-economic reforms have overhauled many sectors of the economy, introduced competitive pressures and encouraged the take-up of new technologies improving efficiency. However it experienced weaker growth during the 2000s, averaging 1.2%. Recently Australia has relied more on TOT to raise living standards

- In the short term, Australia’s external challenge includes the inflationary risks of an enormous terms of trade boom, and the impact of the GFC.

- In the long term, Australia’s economic challenges include - productivity, participation and population. Policy measures should aim to lift productivity growth and participation

- Participation rate is expected to fall due to the ageing of the population, which will result in the increased allocation of resources to health and aged care

- Improvements in living standards, measured by average annual growth and real GDP per capita is estimated to fall

- Effects: - Living standards

- Increase in real GDP per capita, resulting in higher disposable income and higher material living standards

- Employment - Helps ensure that everyone who is willing and able to work is able to find employment. Also, highly paid and

highly skilled jobs tend to be created - Inflation

- Increased price and larger wage claims increases the level of inflation, particularly if spending is growing when the economy is close to full capacity and growth in AS cannot keep up with growth in AD. preventing a surge in inflation is known as ‘sustainable rate of economic growth’

- External stability - Consumers spend a higher proportion of their disposable income on imports, risking a CAD and hence external

stability. Balance of payments is regarded as a ‘speed limit’ on economic growth - Income distribution

- Income distribution may be distorted if the benefits of growth flow mainly to a particular group in society, such as shareholders or company objectives

- Environmental - Pursuing growth with little regard for the environment results in pollution, depletion of non-renewable energy

sources and damage to the local environment. Maintain growth rate without causing irreparable damage to the environment is known as ‘ecologically sustainable development’.

➢ Increases in aggregate supply - improvements in efficiency and technology ➢ Trends in the business cycle

Unemployment

➢ Measurement - Labour force - Participation rate - Unemployment rate

➢ Trends ➢ Types and causes

- Cyclical - Structural - Frictional - Seasonal - Underemployment - Hidden - Long term

➢ NAIRU (non-accelerating rate of unemployment) ➢ Main groups affected by unemployment ➢ Effects of unemployment - economic and social costs

Inflation

- Price stability (or low inflation) is a major objective of government economic policy because rising inflation - Reduces real incomes which leads to falling living standards - Erodes savings - Causes a misallocation of resources - Loss in international competitiveness - prices increase against competitors - Can lead to higher inflationary expectations - excessive wage and price demands

- Wage spiral and further acceleration of inflation ➢ Measurement - headline and underlying

- Measuring the rate of inflation - Most common measure in Australia is the Consumer Price Index (CPI) that measures % change in the prices of consumer goods

and services - CPI1

CPI2 − CPI1 - This summarises the movement in the prices of a ‘basket of goods and services’ that are weighted according to their

significance for the average Australian household - Headline inflation: change in CPI - Underlying inflation: removes one off, seasonal and volatile factors

➢ Trends - Pre - 1990

- Very poor record - 10% for much of the 70’s and 80’s - Periods of stagflation - also 10% UE

- 1992 - 2009 - RBA introduced 2-3% inflation target (very successful)

- Achieved low inflation + economic growth + falling UE - Success of microeconomic reforms and lower global inflation levels

- Maintained target band (expect for GST introduced in 2000) - Peaked at 5% in late 2008 (just prior to GFC)

- 2010-12 - 2-speed economy (mining states vs the rest) - Mining boom fed into the CPI - Rest of the economy effectively in recession - RBA still needed to raise cash rate - even tougher for the rest of the economy

- Post 2013 - At the lower end (and below) RBA’s target range - Deflationary risks

- 2018-19 - Signs of inflationary pressures and wage growth in the US as they start increasing rates - Still hasn't fed into our economy despite 5% UE - March CPI again falling below 2-3% target

- 1.3% for the year ending march - 0% for the March Quarter

- RBA predicted to cut rates below 1% by end of 2019 ➢ Causes

- Demand inflation - When Aggregate demand (or spending) exceeds the productive capacity of the economy (supply), prices must rise

- Cost inflation - When costs of production rise, businesses pass them on to the consumer by raising their prices - Main cause of cost-push inflation is wage increases i.e. when wages rise faster than the rise in productivity, the cost for

each unit of output increases - Imported inflation

- Rising import prices from inflation in another economy or a depreciation in the AUD - Inflationary expectations

- If key participants in an economy expect inflation to rise, they will try to protect themselves from it - bringing about the expected rise

➢ Positive and negative effects - Unemployment

- Inverse relationship: High UE = Low Inflation (vice versa) - Why? Low UE - increased spending - increased AD - Demand pull inflation

- Stagflation (1970’s): increase in UE and inflation - Late 1990’s: low inflation and falling UE, most likely due to productivity growth (micro reform)

- Economic growth and uncertainty: - Inflation acts as a constraint on economic growth - While excessive growth is inflationary, moderate economic growth can be maintained with lower rates of inflation without

the need for tighter monetary policy - Lower inflation rate:

- Likely to encourage consumers to save a higher proportion of their disposable income (less fear of prices rising) - Increased investment in long-term productive assets rather than short-term speculative investments

- Higher inflation rate: - Decreased savings as the value of savings is being eroded (encouraging spending) - Investment decreases as producers are uncertain about future input costs (more likely to pursue short-term

speculative investment) - Wages:

- Inflation - pressure for wage increases (wage price spiral of stagflation 1970’s) - Since 1980’s, wage rises based on productivity/enterprise bargaining - Wage price index currently lowest on record

- Income Distribution: - High inflation rates impact low-income earners harder as their wages don’t rise as quickly (linked to poor bargaining

power) - And indirectly through subsequent interest rate rises

- International Competitiveness: - Low inflation should improve IC (less expensive exports and competitive with imports) - improve CAD

- Exchange rate impacts: - High inflation leads to decreased capital inflow and lower demand for AUD - Sustained low inflation may foster international confidence in the Australian economy

- FDI is based on performance not speculation - strengthen the value of the dollar

External Stability

- External stability ensures that imbalances in Australia’s relationship with the global economy do not hinder achieving domestic policy goals such as:

- Higher growth - Lower unemployment - Lower inflation

- Achieving external stability includes: - Maintaining CAD at a sustainable level (below 3% of GDP) - Ensuring foregin liabilities can be serviced - Avoiding dramatic movements in the AUD - Maintaining a strong terms of trade

➢ Measurement - CAD as a percentage of GDP

- Australia has a persistent CAD - Driven by primary income deficit - Has averaged 4.3% of GDP since mid 80’s

- Australia’s CAD - Result of savings and investment gap

- Many economists agree our CAD is sustainable since high levels of foregin investment lead to higher levels of economic growth

- If domestic spending exceeds domestic output, resulting in a CAD, we are forced to borrow overseas to fill this gap

- ‘Crowding out Effect’ - Govt borrowing to fund budget deficit

- Forces up private sector costs - Net foregin debt as a percentage of GDP

- Australia's foregin debt has been growing rapidly - Grew during the 80's from 6-35% of GDP - Recently close to 60% - Low interest rates allow for lower servicing costs

- Net foregin liabilities as a percentage of GDP - Australia’s foregin liabilities

- Net foregin debt: loans owed by Australians overseas - Overseas loans owed to Australians - Net foregin equity: Australian assets owned by foreigners - Overseas assets owned by Australians

- The servicing of foregin debt is recorded as an outflow on the Current Account, Worsening CAD - In the long term, excessive growth in Australia’s foregin debt could lead to a debt sustainability problem - If the size of the debt is rising faster than an increase in GDP, as it has done in most years, the interest payments on the

debt will progressively take up a greater proportion of out GDP - Reduces standards of living and potential economic growth

- High foregin debt can also cause a vicious cycle, known as the ‘Debt trap cycle’ - High CAD, requires inflow of foregin debt of selling of Australian assets, larger foregin debt = increased interest

repayments which are recorded as NPY debits

- If speculators find Australia’s debt is unsustainable: - Decreased credit rating (Australia currently holds a AAA credit rating) - Decreased investment, Increased supply of AUD = Decrease in AUD

- Net Foregin Equity: - Foregin investors buy Assets in Australia = increased Net Foregin Equity - When Australia buy foregin assets = Decreased Net Foregin Equity

- Net Foregin Equity tends to be more volatile and influenced by exchange rate movements and market fluctuations - Attracts servicing costs in the form of profits and dividends

- Worsens NPY therefore increasing CAD - Equity servicing costs make up half of NPY Debits

- Terms of trade - Australia experiences a volatile Terms of Trade

- TOT has fluctuated in recent years due to commodity boom - Peaked in 2011: 106.4 - Underpinned by rapid growth in China and India - Boosted exports and national income - High TOT made other industries less competitive due to high AUD

- Exchange rate - Australia’s exchange rate:

- Provides a direct link between Australia and the rest of the world - High volatility of AUD the result of Australia’s heavy reliance on commodity exports

- Attracts speculators - Low of $0.47 (2001) - $1.10 (2011)

- Volatility is a result of global economic instability - Growth in China, Increased commodity prices, Increased AUD demand = Increased AUD

- Exchange rate operates as a powerful stabilising mechanism - Helps Australia adjust to changing conditions in the Australian economy

- During periods of weaker growth (domestically and internationally) Exchange rate depreciations have: - Made Australia more internationally competitive - Helped stimulate export growth

- A change in the exchange rate influences the BOP by affecting international competitiveness and the size of servicing costs of our foregin debts:

- If AUD is volatile, External stability is volatile - Creates policy challenges and economic instability

- Sudden or large depreciation of AUD = Decrease in investor confidence - Investors may fear further volatility discouraging investment

- Once a downward trend sets in, it can continue till speculators believe the AUD is undervalued and begin to buy again - International competitiveness

➢ Trends ➢ Positive and negative causes and effects

- Policies to achieve external stability - Monetary policy:

- Contractionary policy to reduce consumer spending on imports in order to create short-term improvements on BOGS - Considered ineffective because:

- Impact only temporary - Slows down entire economy

- Unable to target long-term structural imbalances - Fiscal policy:

- Addresses national savings by running budget surplus - Reducing deficit = less upwards pressure on interest rates and ‘crowding out effect’ for private borrowers

- Compulsory superannuation: - Requires employees to set aside 9.5% of wages

- Lifted national savings

- Increased overseas investment = creates inflows in NPY decreasing the CAD - Microeconomic reform

- Used to address structural problems causing Australia’s imbalances - Lift efficiency and productivity of Australia’s producers

- Increased international competitiveness - Removing protectionist barriers

- Stops shielding inefficient producers from international competition - Labour market reform

- Increased productivity and workforce participation

Distribution of income and wealth

➢ Measurement - Lorenz curve and Gini coefficient - Lorenz curve is a graphical representation of income distribution, plotting the cumulative percentage of total income received

against the cumulative percentage of income recipients ranked by income - Gini coefficient is a number between zero and one that measures the extent of income inequality in an economy

➢ Sources of income as a percentage of household income - Wages from the sale of labour (56%) - Rent from land (12%) - Earnings from capital (17%) - Transfer payments (9%)

➢ Taxation, transfer payments and other assistance - Government intervention tends to reduce income inequality by taxing the wealthiest groups more heavily and redistributing

income to lower socio-economic groups. - As income rises, so too does the level of taxation. This occurs because Australia has a progressive tax system, with higher

marginal tax rates for higher income earners - 32.8% of the revenue raised by the progressive taxation system is spent on transfer payments such as pensions,

allowances and tax benefits - 2012-13 budget increased the tax-free threshold from $6,000 to $18,200 in order to reduce inequality

➢ Sources of wealth - Two largest components of household assets are property and superannuation - The most significant household liabilities are loans taken out to purchase a property, which account for 90% of household

liabilities in Australia ➢ Dimensions and trends, according to gender, age, occupation, ethnic background and family structure

- Wealth is more unequally distributed than income - Age:

- 45-49 earn the highest ($1337 per week) - 15-19 earn the lowest ($276 per week) - Due to less education and experience, income levels are low in early years of working life - Income levels decline as people get older as they rely on aged pensions

- Gender and occupation: - Average weekly earnings for women are only two-thirds of those male - Jobs with higher levels of education, training and experience enjoy higher income levels

- Ethic and cultural background: - Overseas born/english speaking earn more than Australian born 9on average) - NESB earn less than english speaking background - ATSI earn considerably less

- Family structure - Single parent families have the lowest average weekly earnings (AWE) - DINK’s highest AWE

➢ Economic and social costs and benefits of inequality - Economic benefits:

- Inequality encourages the labour force to increase education and skill levels - Improved skill and education levels in labour force

- Inequality encourages the labour force to work longer and harder - Enhance economic growth and improved labour productivity

- Inequality makes the labour force more mobile - More efficient allocation of resources and higher economic growth

- Inequality encourages entrepreneurs to accept risks more readily - Inequality creates the potential for higher savings and capital formation

- Higher income = higher saving - Economic costs:

- Inequality reduces overall utility - This is because people on higher incomes gain less utility from an increase in income than people on lower

incomes - Inequality can reduce economic growth

- Low income earners have a higher MPC, and therefore in an economy with high levels of income inequality, there will be relatively lower levels of consumption and higher savings = lower economic activity, employment, investment and living standards

- Inequality creates conspicuous consumption - Creates poverty and social problems - health, crime and social welfare costs - continuous welfare support increases

inequality further - Social benefits:

- Very limited and favour those at the higher end of income and wealth - Access to better education - Mental abilities - Inheritances at a head start - Access to networks

- Social costs: - Social class divisions - Poverty - poverty trap

Environmental sustainability

- Environmental Economics examines the way that environmental considerations are taken into account in economic decision-making - The goal of ecological sustainability is to preserve those scarce resources over the long term ➢ Ecologically sustainable development

- Ecologically sustainable development involves conserving and enhancing the community’s resources so that ecological processes and quality of life are maintained. It is a level of economic activity that is compatible with the long-term preservation of the environment rather than merely the maximum level if growth possible in the short term

- Aim of environmental growth and protection: - Gives people the best quality of life - It encourages future growth of the economy by not limiting its natural resources - Intergenerational equality

- Australia’s National Strategy on Ecologically Sustainable Development (NSED) - To enhance individual and community well-being and welfare by following a path of economic development - To provide for equality within and between generations - To protect biological diversity and maintain essential ecological processes and life-support systems

- Key principles of ecologically sustainable development - Integrating economic and environmental goals in policies and activities - Ensuring that the environmental assets are appropriately valued - Managing environmental risks with caution

➢ Private and social costs and benefits - externalities, market failure - Market failure: private benefits and social costs

- The price mechanism does not effectively take into account the long-term effect of economic activity on the environment, for example:

- Unsustainable logging - River pollution

- This is because producers enjoy a private benefit from the activity that depletes resources or pollutes the environment - Market failure occurs when the price mechanism takes account of private benefits and costs of production to consumers and

producers, but it fails to take into account indirect costs such as damage to the environment - These other costs and benefits that are passed onto other members of society are known as externalities

- A Negative externality is an unintended negative outcome of an economic activity whose cost is not reflected in the operation of the price mechanism

- Goods and services that have negative externalities are known as demerit goods - The issue with market failure causing environmental impacts is there's no property ownership of oceans and the

atmosphere, hence the price mechanism cannot determine the price of value for these resources. - therefore people use it freely without regard to their depletion, therefore, the environment can be destroyed through overuse

- This market failure is often referred to as the tragedy of the commons - However, price mechanisms play a limited role in protecting the environment by limiting the sales of depleted resources

which do have a price - When environmental resources become scarce, the cost of natural resources increases, reducing the number of

resources consumed - There are also some positive externalities

- A positive externality is an unintended positive outcome of an economic activity whose value is not reflected in the operations of the price mechanism

- Known as merit goods ➢ Public and private goods - free riders

- Public goods are non-excludable - once public goods are provided, the producer cannot exclude consumers from enjoying the benefit of that good even if they are not prepared to pay

- Public goods are non-rival - consumption of the good by one individual consumer does not reduce the quality of the good available for other consumers

- These characteristics of public goods create the opportunity for ‘free rider’ behaviour

- Free riders refers to groups or individuals who benefit from a good or service without contributing to the cost of supplying the good or service

- Private sector firms do not provide or under-provide public goods as they do not receive any profits. - Therefore the price mechanism cannot produce an equilibrium outcome that properly reflects supply and demand - For this reason, public goods tend to be provided by the government

➢ Environmental issues: - Preservation of natural environments

- In the long run, the economy cannot keep growing if the environment is degraded - Environmental damage affects human health and restricts the availability of resources - Preservation of the environment may include measures such as:

- Restrictions on development in environmentally sensitive areas - Controls over emissions of waste products

- Problems with trying to preserve the natural environment: - Governmental policies may result in a reduction of economic growth - Industries will face higher costs if they have to comply with rigorous environmental standards - The cost of repairing damage to the environment is often borne by taxpayers

- Pollution, climate change - Government policy to reduce pollution

- Laws banning environmentally damaging production techniques - Quotas to restrict the emission of harmful pollutants - Subsidies to encourage environmentally friendly practices

- Depletion of renewable and non-renewable resources - For renewable resources, establishing an optimal rate of use means arriving at a threshold exploitation level that allows

the resources to regenerate so that there is no long-term decline in these resources - For non-renewable resources, the calculating of an optimal rate of use involves determining a rate of decline that is

acceptable for the present generation and future generations - Managing resource use is particularly important in a resource-rich country like Australia because our economy

relies heavily on the exploitation of Australia’s natural resources

TOPIC 4 - ECONOMIC POLICIES AND MANAGEMENT

➢ Economic objectives in relation to: - Economic growth and quality of life

- Economic growth offers substantial benefits to a nation, including: - Increased living standards - Improved job prospects for the labour force - Increased public investment in infrastructure and education through higher government tax revenues

- Full employment - Involves the full use of all resources - NAIRU: refers to the level of unemployment at which there is no cyclical unemployment, that is, where the economy is at

full employment - Benefits of full employment:

- Fully utilising the economy’s current capacity to produce, improving living standards - Minimising the adverse economic and social problems associated with unemployment

- Okun’s Law - the important relationship between economic growth and the rate of unemployment - Okun’s law states that the rate of economic growth must exceed the sum of productivity growth and growth in the

workforce in order for unemployment to fall - Rate of economic growth = productivity growth = labour force growth = employment growth

- Price stability - Price stability refers to keeping inflation at an acceptable level (2-3%) - High level of inflation may:

- Reduce the real value of income and wealth - Reduce our international competitiveness, due to rising costs of production - Cause a depreciation in the exchange rate as foregin exchange markets lose confidence in an economy - Create uncertainty about future costs and distort economic decision making

- External stability - Achieving equilibrium in the current account of the balance of payments - Maintaining international confidence in the value of the AUD - Maintaining an acceptable level of foregin debt

- Environmental sustainability - Ecologically sustainable development

- Distribution of Income - Government aims to:

- Create a fairer distribution of wealth and income in an economy - Provide transfer payments to disadvantaged social groups

- Government spending on elements of the social wages - Welfare assistance and tax relief for low income households

➢ Potential conflicts among objectives - Achieving a reduction in inflation and unemployment

- Policies that promote economic growth and full employment (expansionary fiscal and monetary policy) may cause inflationary pressures to rise which threatens price stability

- In the short term there is a conflict between demand-pull inflation and cyclical unemployment - Shown through Phillips curve: inverse relation between unemployment and inflation

- Achieving economic growth vs maintaining external stability (short-term) - High levels of growth can result in external instability

- This is because higher rates of economic growth are likely to coincide with higher levels of spending on imported goods and services, deteriorating the CAD

- Deterioration in the CAD: increased consumption which makes up 60% of AD and Investment will increase the level of imports and foregin borrowings - raises foreign liabilities and increases servicing costs on the net income account, worsening the CAD

- Reduce international competitiveness of Australia’s exports due to inflationary pressure - Balance of payment constraint

- External instability can also cause instability in the exchange rate, which may affect the performance of Australia’s exports, reducing economic growth

- To slow the domestic economy through implementing contractionary policies - economy must grow below its productive potential, resulting in a conflict between growth and external stability

- Reduce the level of investment in the long run - if overseas financial institutions see Australia as a more risky investment destination

- Economic growth vs promoting environmental sustainability and reducing inequality (short-term) - Economic growth may conflict with environmental quality in the short term as if growth is ecologically unsustainable and

leads to a depletion of resources (renewable and non-renewable) and increases externalities such as pollution, land degradation and a loss of biodiversity

- Structural unemployment and higher levels of inequality in the distribution of income appear to be an undesirable trade off for the structural adjustment required to ensure the long term prosperity of the economy.

➢ Macroeconomic policies - Rationale for macroeconomic policies - stabilisation and shifts in aggregate demand

➢ Fiscal policy - Federal government budgets and budget outcomes - Budget outcomes:

- Budget Surplus: G<T - Budget deficit: G>T - Balanced budget: G=T

- Measures of budget outcomes: - Fiscal outcome: - Underlying cash outcome:

- Changes in budget outcomes: - Discretionary changes in fiscal policy involve deliberate changes and influence the structural component of the budget

outcome - Non-discretionary changes in fiscal policy are caused by changes in the level of economic activity and influence the

cyclical component of the budget outcome - Automatic stabilisers are policy instruments in the budget that change the level of government revenue and expenditure

from changes in the level of economic activity. They are designed to play a counter-cyclical role - Unemployment benefits - Progressive income tax system

- Impact on economic activity - Expansionary stance: the government plans to increase the level of economic activity in the economy - Contractionary stance: the government plans to decrease the level of economic activity in the economy - Neutral stance: the government plans to have no effect on the level of economic activity

- Effects of budgetary changes on resource use, income distribution and economic activity - Methods of financing deficits - Use of a surplus

➢ Monetary policy - Purpose of monetary policy - Implementation of monetary policy by the RBA - Impact of changes in interest rates on economic activity and the exchange rate

➢ Labour market policies - Objectives of labour market policy

- Maintaining low inflation by keeping growth under control - Big factor of cost push inflation

- Productivity (micro) objectives that improve our competitiveness - increase AS

- Ensuring labour costs don’t become too high - Helps to minimise unemployment issues

- Minimum wage (and other similar safety nets) look to create a fairer distribution of income - Role of national and state systems

- The Commonwealth and each state government has traditionally had its own industrial relations system - Some awards were made at state and others at commonwealth levels - Many employers needed to comply with a range of awards if they had workers in different states - 80’s - Wages Accord

- Match wage growth with increase in productivity - Howard introduced ‘workchoices’ ACA 2005

- (amendments to the workplace relations act 1996) to address this and other inefficiencies - Single national industrial relations system (overriding the states)

- Reduced employment standards to just 4 - ‘Work choices’ was a big reason for Howards 2007 defeat

- Rudd replaced ‘Workchoices’ with ‘Fairwork Act’ 2009 - Negotiated a unified national IR system with the states (excluding WA) - Modernisation of 4,300 state and federal awards to just 122 modern awards - Reduce labour market compliance costs by $4.8b over 10 years

- States regulation of labour markets now limited to - State and government employees - Workers compensation scheme - Public holidays

- The national system for determining - Minimum employment standards

- Fairwork Act (2009) guarantees all employees on awards or common law contracts with 10 national employment standards

- Minimum wages - Under Fairwork Act (2009), the minimum wage panel sets the national minimum wage - ‘Safety net’ of minimum pay for employees that are not covered by an award - Panel’s objective is to establish fair minimum wage, while taking into account the state of the economy

- 2008: 4.1% increase to $543 per week: GFC - 2009: no change - recessionary, high UE - 2018: 3.5% increase - $720 per week

- Awards - Awards: 23% (2017) - Negotiated between a group of employees in the same industry or occupation (represented by a union) and an

industry ‘peak body’ e.g. employer group - Industrial awards provide a minimum wage and conditions for employees specific to their industry, Job

classification, occupation or type of work they perform - Modern Awards can include a flexible clause that allows variations that meet the individual needs of employer and

employee - Flexibility clause cannot reduce the pay/conditions in the awards and cannot be a condition of employment

- Enterprise agreements - Collective Agreements: 37% - Union vs one business - Workplace agreements negotiated between an employer and a group of employees (usually represented by a

union) - Enterprise Agreements mostly comply with the National Employment Standards and pass a ‘BOOT’ by FWC - Better than Awards

- Employment contracts for high income earners - Individual Agreements: 36% - Individual contract between employee and employer - Very common in small businesses (generally informal agreements) - Not approved by Fair Work Commision, still above minimum wage

- Taken to civil court if there is a dispute - Cannot trade off or remove minimum award conditions - For high income earners awards do not apply - common law agreements

- Can still be apart of a union - Objective was to retain some flexibility in the labour market while trying to protect lower income earners with less

bargaining power - Dispute resolution

- Individual disputes are disruptions to the production process due to disagreements between employees and employers - Inefficient - miss a day of productivity: increase in wages - inflationary - E.g. Strike…

- Mechanisms for resolving disputes - Conciliation: use of a third party mediation (usually an industrial tribunal) to assist at a compromised agreement which

then becomes legally binding

- Arbitration: when the third party (e.g. Fairwork commision) impose a binding decision. This settlement may alter a modern award or enterprise agreement

- Not in court - Cannot go back to the conciliation stage

- FWA 2009 requires all awards and enterprise agreements to include compulsory dispute settlement terms (a roadmap for resolving disputes)

- Objective is to reduce the need for arbitration, where FWC only intervenes in specific circumstances - FWA also requires party to bargain in good faith - If not, FWC can intervene to impose legally binding “bargaining order”

- Arguments for and against the use of centralised, decentralised and individualised methods for determining employment contracts

- Under the enterprise bargaining (decentralisation), Australia has sustained moderate wage increases, low inflation, strong productivity growth, employment growth and avoided recession

- Wage Growth: - Hasn’t added to inflationary pressures in recent years (despite very low UE) - Although has allowed for large wage increases in specific industries

- Reflects flexibility in the labour market - Wage growth at record low levels

- 1.9% in 2018 - Wages ahead of inflation (by small amount)

- Productivity: - As wage negotiation is based on individual workplaces, productivity gains can be more closely linked to wage (capacity

for firms to pay) - Strong labour productivity growth of 21.1% in the 1980’s - Down to around 1% in recent years

- Limit = cannot reach 0 workers (diseconomies of scale) - Unemployment:

- Opinions mixed - while UE levels have remained very low over the past decade, underemployment remains relatively high in some sectors

- Growth in part time and casual (reflecting greater productivity and flexibility) - Income Inequality:

- The gap is not narrowing - Those who belong to strong unions usually receive higher wage increases and improved conditions than those who do

not have union membership - The better skilled/qualified/experienced workers also tend to receive higher wage increases than the less skilled (greater

bargaining power) - Arguments for decentralisation:

- More efficient allocation of resources and structural change - Firms that are more efficient can afford to pay more and attract higher skilled employees

- Promotes productivity, as employees are given the incentive to work more productively as they are rewarded directly for their productivity improvements

- Helps to reduce inflationary pressures - Labour market adjusts when the economy is affected by negative shocks, helping to keep unemployment at a

lower rate - Allows wages to fall while keeping people in jobs

- Arguments against decentralisation: - Greater inequality through increased wage dispersion

- Industry or firms where unions have little power are less likely to achieve wage increases as they lack bargaining power with employers

- Low-skilled workers are easy to replace and less able to demand pay rises - Wage-push inflation emerges when economic growth is strong and the labour market is close to full employment

- Bargaining power lead to wage price spiral - Centralisation provides an additional policy tool for achieving economic objectives

- Can restrain wage growth to avoid cost-push inflation -

- Education, training and employment programs

➢ National and global context for environmental management - Regulations

- Laws that govern economic behaviour. Prohibit a person from littering, producing polluting chemicals and other environmentally damaging practices

- May specify how a good or service is produced or consumed - Fuel Quality Standards Act 2000 regulates the quality of fuel, aiming to reduce the levels of pollutants and emissions - To regulate climate change, new standards of lighting introduced in 2007 will see incandescent bulbs eventually replaced

by more energy efficient fluorescent light bulbs - 2018 ban on plastic shopping bags

- Market-based policies

- Involve financial incentives and disincentives to influence the behaviour of households and businesses - Environmental costs, known as negative externalities are borne by the whole of society and not taken into account by

producers and consumers in the marketplace. This results in the equilibrium price being too low and production being too high

- Market-based response would be to levy a tax or fee on production that is approximately the same as the environmental costs associated with this economic activity. A tax equal to the vertical distance between curves shifts the supply curve from s1 to s2

- This internalising the externality as consumers and producers pay for the environmental costs - Taxes can increase government revenue, which can then be used for environmental programs

- Subsidies are grants that aim to reduce costs of production and promote environmentally beneficial activities - Introduce a ‘Cap and Trade’ emissions trading scheme

- Targets - Guides environmental management policies

- Increased use of renewable energy is supported by Mandatory Renewable Energy Target (MRET) - Sources 20% of Australia’s energy supply from renewable energy sources by 2020

- Kyoto protocol: Australia will reduce its emissions by 5 - 25% - Australia must reduce carbon emissions by 60% by 2050

- International agreements - 2015 Paris Agreement

- 195 countries committed to curb greenhouse gas emissions to stabilize global warming to below 2º - Non-binding agreement

Assess the impact of the Reserve Bank of Australia’s expansionary monetary policy on the Australian economy.

Expansionary monetary policy conducted by the Reserve Bank of Australia (RBA) involves deliberate actions to increase the supply of money within the economy by reducing the cash rate and in turn the cost of borrowing allowing Australia to reach its economic objectives of full employment, price stability, sustainable growth and external stability. However, in practice, the RBA’s aggressive expansionary monetary policy, with rates cut to a historic 0.75% has done little in stimulating the economy, partly due to a lack of coordination with fiscal policy as the budget is aimed to return to a surplus by reducing expenditure rather than operating fiscal stimulus packages. In order to reduce the cash rate, which is the interest rate in the short term money market The RBA must conduct domestic market operations. DMO is where the RBA buys or sells securities to a financial institution, these transactions can either be outright purchases or sales of securities or ‘repos’ which is where the seller agrees to buy the security back at a later date. To loosen monetary policy the RBA purchases government securities creating an excess of borrowable funds within the overnight money market, in turn the cash rate falls leading to a reduction of market interest rates. Through lowering the official interest rate, the cost to borrow money is reduced therefore increasing Aggregate demand as seen in the shift from D to D1 [INSERT GRAPH]. This allows Australia to reach its economic objectives of price stability, full employment and a sustained level of economic growth however recently, this has failed to occur. Downward pressure on interest rates through DMO makes borrowing cheaper for both consumers and businesses. Therefore by reducing the level of interest rates, borrowing to fuel consumption is encouraged leading to rising consumption and investment demand in the economy thus increasing the level of spending and raising the level of economic activity. Increased economic activity provides Australia’s economy with greater employment opportunities and ultimately increases living standards. During the GFC, Australia's response to slow global economic growth was to cut rates in order to stimulate aggregate demand. Slashing rates from 7-4% allowed for increased investment and borrowing opportunities and proved effective in protecting Australia from a domestic recession, however, its success can be linked to subsequent expansionary fiscal policy through the Rudd Stimulus package with further increase AD through stimulating consumption (60% of AD). More recently, Australia has slid into growth rates on par with GFC level economic growth (1% so far this year), this has occured whilst interest rates continue to break record lows, a trend seen globally. Therefore it can be observed that the use of expansionary monetary policy is less relevant in achieving a sustained level of economic growth, especially with contractionary fiscal policy as the current liberal government aims for a budget surplus in 2019-20. Australia’s utilises monetary policy as a highly effective tool in achieving stable inflation which in turn preserves the purchasing power of the Australian dollar ensuring stability of Australia’s currency. Inflation acts as a constraint on economic growth and therefore Australia’s rate of inflation needs to be carefully managed so that moderate economic growth can be sustained without requiring contractionary monetary policy. The RBA’s inflation targeting of 2-3% over the business cycle ensures price stability whilst achieving moderate economic growth, which decreases unemployment and leads to higher living standards. Through lowering interest rates to encourage consumption, Australia’s dollar would depreciate due to investors earning a lesser return on their investment. This would increase export sales and decrease expenditure on imports, increasing aggregate demand but also increasing imported inflation. Currently, the use of expansionary monetary policy has been unable to push inflation into the 2-3% threshold, as it sits below at around 1.4%. It’s effectiveness is limited due to the time lag it takes for monetary policy to take full effect, which is around 12-18 months. Expansionary monetary policy is further limited by Australia’s need to maintain an interest rate differential between the rest of the world. Australia needs to maintain rates higher than the rest of the world in order to attract foregin capital inflow, due to low levels of domestic savings. Australia’s use of monetary policy is also influenced by global economic conditions for example during the GFC. As the global economy slows, demand for our exports decrease therefore leading to lower domestic growth and increased unemployment, as a policy response Australia would need to lower interest rates in order to stimulate domestic consumption and investment. {Not sure what examples or what else to put here} Through the RBA’s use of expansionary monetary policy, Australia’s economic growth can be influenced by increasing AD through making the cost of borrowing cheaper. Low levels of inflation, below the inflation target of 2-3% can also be targeted through utilising expansionary monetary policy. Lastly Australia’s use of expansionary monetary policy can be attributed to external factors and aiming for external stability.

Evaluate the effectiveness of fiscal policy in achieving Australia’s economic objectives. Fiscal policy is a countercyclical macroeconomic tool that involves the use of taxation receipts and government expenditure to influence economic decisions within an economy, the Australian economy utilises fiscal policy to influence economic activity through increasing aggregate demand, influence resource allocation and redistribute income through transfer payments and a progressive taxation system, this allows Australia to achieve its economic objectives of sustainable growth, achieve price stability and full employment. The overall impact of fiscal policy can be measured through the budget outcome, currently Australia’s budget is in a deficit of 0.6% of GDP, this means expenditure outstrips taxation receipts, Australia’s federal budget is however forecasted to tip into a budget surplus of $2.2b in 2019/20. Essentially, Australia's fiscal stance has become contractionary by reducing expenditure, this has limited the impact of changes in monetary policy by reducing economic stimulation within the economy. In accordance with Keynesian economic theory Australia’s primary use of fiscal policy was to influence economic growth through stimulating aggregate demand (AD). By the early 1990’s, the role of fiscal policy in influencing economic growth has been reduced, with monetary policy becoming the main instrument to influence economic growth. Economic growth can be influenced through fiscal policy via fiscal stimulus packages most notably used during the global financial crisis. The Rudd government's first budget in 2008/09 was originally planned to be a surplus of $26b however as the GFC approached the budget was revised to accommodate for a moderate economic downturn leading to a decrease in taxation receipts, therefore an aggressive stimulus package was implemented increasing expenditure, this package included funding for building programs as well as cash handouts to Australian families, the purpose of this was to increase expenditure by running a budget deficit and ultimately saving Australia from recession. The 2019/20 budget’s overall fiscal stance is contractionary therefore slowing GDP however tax cuts to low-middle income earners is likely to increase aggregate demand in the short-term, Aggregate supply is also targeted through increased expenditure on education programs and infrastructure projects, this allows Australia’s economy to become more productive through a more efficient allocation of resources, thus increasing growth without becoming inflationary. The use of fiscal policy is a highly effective tool in allowing for economic growth however monetary policy has become the go-to tool in increasing aggregate demand in current years. Changes to taxation arrangements such as a reduction in the top marginal tax rates make the taxation system less progressive where as a reduction in the GST, reduces income inequality. Budgetary changes involving government spending can also improve income inequality such as increased spending on community services and welfare payments. The 2019-20 budget aims to reduce income inequality through providing personal tax cuts and increased education and healthcare spending, this would bring Australia’s economy closer to the line of equality as shown in the shift from L1 to L2 on the Lorenz Curve [Insert graph]. Later rounds of personal tax cuts starting from 2024 which benefit high income earners is likely to increase income inequality as witnessed in the shift from L2 to L3. The implementation of automatic stabilisers also help increase income equality through providing unemployment benefits as well as a progressive taxation system. Automatic stabilisers are designed to be counter-cyclical and are non-discretionary changes to the budget caused by the level of economic growth. During a recession [GRAPH] economic growth would decrease therefore leading to an increase in unemployment, inturn expenditure on unemployment benefits would also increase leading to an increase in government expenditure. Adversely an increase in economic activity would lead to a decrease in unemployment and an increase in taxation receipts which would be redistributed via transfer payments improving income inequality. To fund a budget deficit, the government is able to borrow from the private sector through selling treasury bonds to finance the deficit, this however may ‘crowd out’ private investment as lenders will prefer to lend money to the government. A budget deficit decreases national savings and therefore ‘crowds out’ domestic borrowers and investors, this would lead to an increase in borrowing from overseas lenders, worsening the net income deficit and the CAD as net foregin liabilities require servicing. This would lead to an increase in interest rates, drawing investment from overseas further increasing foregin debt. Furthermore, the impact of increased foregin investment would flow on to Australia’s dollar increasing it as demand increases [GRAPH] increasing its value, this would further increase the CAD by making our exports less internationally competitive and imports cheaper deteriorating the balance of goods and services (BOGS). In stimulating aggregate demand, expansionary fiscal policy can help reduce unemployment by increasing the rate of economic growth as seen in the shift from D1 to D2 [Graph]. Specific budget measures address Australia’s longer term labour market challenges such as increasing the participation rate and reducing structural unemployment. Through achieving full employment, Australia’s economic is utilising all its resources and its benefits include higher living standards by fully utilising the economies current capacity and as a result a decrease in UE and social problems. Reduction to company taxation rates in the 2019/20 budget to 25% increases AD as it allows for more consumption and investment and lastly an increase in jobs which inturn leads to an increase in AS as Australia's productive capacity increases. Discretionary changes to fiscal policy such as the low income tax offset, the implementation of Job Services Australia and the Jobs and Training Compact, work to reduce the level of unemployment pushing Australia closer to the Non-accelerating inflation rate of unemployment (NAIRU) which currently sits at 4.5%. Through discretionary and non-discretionary changes to Australia’s fiscal policy sustainable rates of growth, full unemployment, external stability and a more equitable distribution of income can be achieved.

Evaluate how current labour market policies contribute to the management of the Australian economy and encourage structural change. Labour market policies are policies directed at Australia’s labour market and have three main objectives. Labour market policies aim to maintain low inflation (within RBA target band of 2-3%) by keeping growth under control, LBM policy also aims to increase productivity through micro objectives which improve Australia’s competitiveness through an increase in aggregate supply. Lastly LBM policies also ensure that labour costs do not become too high which helps minimise unemployment issues. Traditionally the Commonwealth and each state government had its own industrial relation system with some awards being made at a state level and others at commonwealth levels, this created inefficiencies within Australia’s labour market as many employers needed to comply with a range of awards if they had employees in different states. The implementation of ‘workchoices’ in 2005 created a single national industrial relations system increasing efficiency within the labour market. Kevin Rudd then replaced ‘Workchoices’ with the ‘Fairwork Act’ 2009. The FWA negotiated a unified national IR system with the states (excluding WA) and modernised Australia’s award system reducing the number of awards from 4,300 state and federal awards to just 122 modern awards, this reduced labour market compliance costs by $4.8b over 10 years.

Under ‘Fairwork Act’ (2009), the minimum wage panel sets the national minimum wage, this acts as a safety net for any employee not covered by an award. The minimum wage panel within Fair Work Australia must assess the performance and competitiveness of the national economy and consider macroeconomic impact of decision, policies must also balance the needs of both unemployed and low paid workers, as high minimum wages may discourage employers from hiring additional employees. As of 2018 the minimum wage currently sits at $720 pw, a 3.5% increase from 2017. Through decentralising Australia’s labour market, Australia has witnessed high rates of sustained economic growth as the implementation has increased efficiency and productivity as seen in a shift aggregate supply shift to the right, this allows for greater levels of economic growth without increased inflation as the economy's productive capacity has increased. Through this decentralisation process there has been a greater shift towards enterprise agreements and employment contracts for high income earners. Enterprise agreements (EA’s) now account for 37% of employees in Australia and are agreed between a union and one business, these awards must comply with the National Employment Standards and need to be better than awards, this is done through conducting a ‘better off overall test’, which requires that employees be made better off overall by an agreement comparable to an applicable award. These collective agreements cover issues such as wage increases, loadings for additional work hours and changes to workplace practices which increase productivity and their implementation has led to annual wage increases averaging roughly 4% since the early 1990’s. Employment contracts currently account for 36% of all employees within Australia and are individual contracts between employee and employer, these are very common within small businesses as generally informal agreements. Employment contracts are not approved by the FWA but still must remain above minimum wage and minimum award conditions, therefore employment contract disputes are settled in court rather than through the FWC. The main objective of individual employment contracts are to retain flexibility within the labour market whilst trying to protect lower income earners with less bargaining power. The implementation of education, training and employment programs have helped reduce structural unemployment within the economy by helping to solve the skills/jobs mismatch within the Australian economy. Investment into trade learning centres have increased training places for students pursuing careers in trades, increased investment into early childhood education has also taken place, strengthening basic literacy and numeracy skills during the early years of education. Through increasing school retention rates to 90% by 2020 and raising the number of 25-34 year olds with a university degree to 40% by 2025, Australia’s labour force becomes better educated leading to increased efficiency and productivity, allowing our economy to produce ETM’s as there is now the required domestic skill, one downside of this however is a potential rise in student loan rates which could choke future economic growth. Under the use of enterprise bargaining (decentralisation), Australia has sustained moderate wage increases, low inflation, strong productivity growth as well as moderate employment growth. Wage growth hasn't added to inflationary pressures in recent years despite very low unemployment although has allowed for large wage increases in specific industries reflecting flexibility within the labour market. Despite this, wage growth is currently at record low levels at 1.9% in 2018; just ahead of inflation (by a small amount). Productivity has also increased reaching rates of 21.1% during the 1980’s however this has decreased down to around 1% in recent years. Decentralisation of Australia’s labour market has led to increased income inequality as those who belong to strong unions usually receive higher wage increases and improved conditions than those who do not have union membership, the better qualified and skilled workers also tend to receive higher increases than less skilled workers as a result of greater bargaining power. Through the implementation of labour market policies, an arm of microeconomic policy, Australia has been able to increase efficiency and productivity within its labour market as a result of policies which promote decentralisation. This leads to a more efficient allocation of resources and is a source of structural change within the economy, directly leading to productivity improvements whilst reducing inflationary pressures as a result of an increase in aggregate supply. Despite this, there has been an increase in income inequality as those struggle to bargain for wage increases in an increasingly decentralised labour market.

Discuss the role of government in attempting to achieve environmental sustainability in Australia. Environmental Economics examines the way environmental considerations are taken into account in economic decision-making. For an economy to achieve environmental sustainability, ecologically sustainable development (ESD) must occur. ESD involves conserving and enhancing the community’s resources so that ecological processes and quality of life are maintained, it refers to a level of economic activity that is compatible with long-term preservation rather than short term growth. Through achieving ESD Australians are given a better quality of life, future growth is encouraged and intergenerational equality is achieved. Australia attempts to achieve ESD through the implementation of policies such as the National Strategy on Ecologically Sustainable Development (NESD) which aims to enhance individual and community well-being, provide intergenerational equality and protect biological diversity and maintain essential biological processes and life-support systems. One issue this creates is the trade off between economic growth and environmental sustainability, economic growth may conflict with environmental quality in the short term. This is because growth that is ecologically unsustainable leads to a depletion of resources as well as increased negative externalities such as pollution and land degradation, hence the importance of ESD. Market failure occurs when the price mechanism fails to take into account indirect costs of a transaction such as damage to the environment, these costs are referred to as social costs and for the most part are negative externalities making these goods and services demerit goods. Unsustainable logging is an example of a demerit good as the producer enjoys a private benefit from an activity that depletes resources and/or pollutes the environment. In order to help decrease negative externalities and achieve environmental sustainability the implementation of market based policies can be used to influence the behaviour of households and businesses. Environmental costs, known as negative externalities are borne by the whole of society and not taken into account by producers and consumers in the marketplace, this results in the equilibrium price being too low and production being too high. A market-based response would be to levy a tax or fee on production that is approximately the same as the environmental costs associated with this economic activity, this internalises the externality so that consumers and producers pay for environmental costs. Examples of this in Australia include excise on fuel and tobacco which increase government revenue allowing for increased expenditure on environmental programs etc. Subsidies can also be issued to reduce the costs of production and promote environmentally beneficial activities such as subsidizing solar panels for producers to promote clean energy. The introduction of new laws and regulations help govern economic behaviour and prohibit certain behaviours such as pollution and littering. The introduction of the Fuel Standards Act 2000 regulates the quality of fuel sold in Australia, phasing out the sale of leaded fuel to reduce levels of pollutants and emissions. To regulate climate change, new standards of lighting introduced in 2007 prohibited the sale of incandescent bulb so that more energy efficient light bulbs can be sold, this would decrease energy usage leading to greater environmental sustainability as a majority of Australia’s energy production is through non-renewable resources. Discretionary changes within Government budgets can also lead to increased environmental sustainability by increasing expenditure on environmental management programs such as the 2014 Emissions Reduction Fund which allocates $2.5b in funding over 10 years to provide government grants for lower carbon initiatives, a further $2b in funding was also announced in 2019. The now defunct Carbon tax was a tax charged on producers carbon output, this attempted to internalise negative externalities by including their social cost into the price mechanism. The revenue raised then went towards tax cuts for low-income earners, increased transfer payments and funding new technology therefore improving income inequality and supporting structural change whilst also attempting to achieve environmental sustainability. The use of targets are also effective in giving economies goals that allow environmental sustainability to be achieved over a set period, these guide environmental management policies allowing Australia to transition towards renewable energy. Increased use of renewable energy is supported by the Mandatory Renewable Energy Target (MRET) which aims for 20% renewable energy by 2020 for Australia. Targets and agreements can also be multinational, allowing for global cooperation on issues such as climate change and pollution. The 2015 Paris Agreement includes 195 countries committed to curbing greenhouse gas emissions in order to stabilise global warming to below 2ºC. This agreement however is non-binding meaning no member countries are legally obliged to reduce greenhouse emissions. Whilst the implementation of targets and international agreements may not be direct action policies such as market based policies, they help provide guidelines and targets for Australia and the Global economy to adhere to in an attempt to achieve environmental sustainable development. Through the use of market-based policies, laws and regulations and targets and international agreements, Australia is able to achieve a rate of ecologically sustainable development, this allows growth whilst at the same time preserving resources and achieving intergenerational equality.