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Statement 2: Economic Outlook
Part I: Overview
The Australian economy has grown by more than 4 per cent in each of the last three years. In 2000-01, it is expected to grow by a solid 3¾ per cent. Employment growth is likely to remain robust, with unemployment falling to decade lows and the outlook for ongoing inflation remaining favourable.
This positive outlook for solid growth in a low inflation environment continues to be underpinned by the structural improvement in productivity performance evident during the current economic expansion.
A significant rebalancing of the components of growth is expected in 2000-01. Domestic demand is expected to grow at a more moderate pace than in recent years. This reflects moderating consumption growth as wealth effects from house price and share price movements stabilise as well as an unwinding of a net bring-forward of expenditure ahead of The New Tax System, and some effects of recent increases in interest rates. Partly offsetting the slowing in these elements of domestic demand will be stronger growth in business investment, and a significant strengthening in net exports. The strong net exports contribution to growth in 2000-01 reflects faster world economic growth and some moderation in domestic demand, along with a boost to services exports from the Olympics. The overall decline in the Australian exchange rate during the course of 1999-2000 will also contribute to a stronger net export performance in 2000-01.
The combination of strong economic growth, coupled with moderate wage outcomes and strong productivity growth, has supported employment growth and allowed the unemployment rate to decline to around the lowest levels in a decade. Employment growth is forecast to remain robust in 2000-01, at 2¼ per cent, following growth of around 2¾ per cent in 1999-2000. The unemployment rate is expected to fall further, to 6¼ per cent by the June quarter 2001. If the current macroeconomic policy framework is maintained together with ongoing structural reform, unemployment could fall further thereafter to levels not reached in a quarter of a century.
Inflation is expected to be around 2½ per cent in year-average terms in 1999-2000. The slight increase from the very low outcomes of previous years mainly reflects the impact of higher world oil prices over calendar 1999 and in the early months of this year. In 2000-01, ongoing inflation (that is, leaving aside the impact on prices of changes in indirect taxes) is forecast to be around 2½ per cent through the year to the June quarter 2001. This means that the major changes to indirect tax arrangements under The New Tax System will be occurring at a time when the outlook for ongoing inflation remains favourable and wage pressures continue to be moderate.
The effect of indirect tax reform on prices will not be felt evenly through 2000-01, with the main effect occurring in the September quarter 2000. In that quarter, the impact of the Goods and Services Tax (GST) on retail prices will be only partly offset by the removal of Wholesale Sales Tax (WST) on final consumption items. While estimating quarterly outcomes is inherently difficult, the overall increase in the CPI in the September quarter could be of the order of 4½ per cent, of which a little over 3¾ per cent would be the result of one-off price changes associated with indirect tax reform.
In subsequent quarters, increases in the CPI will be smaller than would otherwise have been the case, as the removal of WST and the reduction in the cost of fuel to business reduce embedded production and transportation costs and hence put downward pressure on retail prices. As a result, and as noted in the 1999-2000 Mid-Year Economic and Fiscal Outlook (MYEFO), The New Tax System is expected to add around 2¾ percentage points to the CPI through the year to the June quarter 2001, less than the projected increase for the September quarter. Taking together the estimate of ongoing inflation and the impact of The New Tax System on prices, the CPI is forecast to rise by around 5¼ per cent through the year to the June quarter 2001. Households will be more than compensated for the one-off price impact of indirect tax reform via income tax cuts and increases in welfare payments. The changes to indirect tax arrangements are therefore not expected to have any significant impact on wage settlements or ongoing inflationary pressure. These issues are discussed in more detail in Statement 3.
The New Tax System will provide substantial income tax cuts and increases in social security payments in 2000-01, with the impact on real household disposable income, and hence household consumption, only partly offset by overall increases in indirect taxes. However, it is likely that households are bringing forward some consumption expenditure into the latter part of 1999-2000, ahead of the changes to indirect tax arrangements. This means that this component of demand will be lower than otherwise in the early part of 2000-01.
A similar pattern is occurring in residential construction, with strong activity in this sector in 1999-2000 ahead of the introduction of The New Tax System. As a result a moderate easing in residential construction is expected in 2000-01.
Growth in public final demand in 2000-01 is also expected to be below the growth rates recorded in recent years, reflecting moderate growth in public consumption and much slower growth in public investment expenditure after two years of strong growth.
One component of domestic demand expected to grow more quickly in 2000-01 than in recent years is business investment, which will be supported by a stronger world economy and the beneficial impact of The New Tax System on the price of investment goods and business costs.
The current account deficit (CAD) is forecast to average 4¾ per cent of GDP in 2000-01, down from 5½ per cent of GDP in 1999-2000. Without the one-off boost to exports from the Olympics, the CAD would be expected to be closer to 5 per cent of GDP in 2000-01. The expected decline in the CAD reflects the impact on net export volumes and the terms of trade of the stronger world economy, along with some moderation in the rate of growth of domestic demand.
Table 1: Domestic Economy Forecasts(a)
(a) Percentage change on preceding year unless otherwise indicated.
(b) Calculated using original data.
(c) Chain volume measure.
(d) Percentage point contribution to growth in GDP.
(e) Calculated at basic prices.
(f) Transfers are net second-hand asset sales from the public sector to the private sector. One-off transactions are gold sales by the Reserve Bank and the export of an ANZAC frigate.
(g) Average non-farm compensation of employees (national accounts basis).
(h) The estimate in the final column represents the forecast level in the June quarter 2001.