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Unit 4

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Policy Approach

Policy Impact

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SELECT * FROM poll where pollstartdate <='2010-3-11' AND pollenddate >='2010-3-11' order by pollstartdate desc;

On February 27th the share market index was at 4650. By mid-March it will be closest to:

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Policy Impact

Sustainable Economic Growth

The RBA charter states that monetary policy should be implemented with a view to improving the standard of living of all Australians. This implies that the RBA should seek to maximise the number of goods and services available in the Australian economy, and through that the citizens of Australia will be able to satisfy more of their needs and wants. As a result, we can say that monetary policy will have some impact on the ability of the Australian economy to achieve growth.

Interest rates represent both a supply and demand factor affecting the achievement of growth in the Australian economy. In theory, when interest rates fall the discretionary income of participants in the economy will increase. As such, they will be able to increase their spending, and both the consumption and investment components of aggregate demand may increase. Lower interest rates can also lead to a depreciating Australian dollar. A lower value for the AUD may mean an increase in exports, and a decrease in imports. As such, the demand side impact of a lower target cash rate can be very significant. There will also be some impact on aggregate supply. However, in general you should think of monetary policy as a demand management tool.

As such, it is very likely that the Australian economy will experience growth during times of falling interest rates. This can be seen on the following supply and demand graph.

It should be noted that the implementation of monetary policy has traditionally suffered from an 18 month impact lag. Although the cash rate can literally be changed overnight, it can take around 18 months for the impact of this change to be felt in the economy. As such, the RBA must plan 18 months in advance when making any policy decision.

During the last ten years, this impact can be seen occurring in the Australian economy. There are several significant situations in which a change in the monetary policy stance has been instrumental in assisting the Australian economy to achieve the goal of sustainable economic growth.

For example, in August 2000 the cash rate was increased to 6.25%. It became apparent not long after this time that the outlook for the Australian economy was not as bright as had once been thought. As such, an expansionary stance was needed. As a result, throughout 2001 a series of rate cuts were implemented. In February the cash rate was cut by 50 basis points, followed by 25 basis point cuts in February and March. In April another half a percent was cut from the cash rate, and then more 25 basis point cuts in September, October and December. By the end of 2001 the cash rate had been cut from 6.25% to 4.25%.

Clearly at this point the RBA was adopting a strong expansionary stance. After recording growth of only 1.8% in 2000/2001, it was felt that this stance was necessary to encourage growth in a climate of low confidence. This view was reinforced when the terrorist attacks in the USA occurred in September 2001.

The combined effect of these rate cuts was to improve the rate of growth in Australia. Despite falling confidence, a poor external sector and the fact that a lot of consumption had been brought forward to before the implementation of the GST, the Australian economy was able to achieve a rate of growth in 2001/2002 of 4.0%. This is a significant turnaround in a time of great global uncertainty, and it can be attributed in part to the foresight that was shown in the implementation of monetary policy.

It should also be noted that on occasion an increase in the cash rate can also help us to achieve sustainable growth. This is because the word "sustainable" suggests that the growth which is being achieved is not resulting in any inflationary pressures in the economy. Strong growth in the Australian economy during 2006 and 2007 was achieved despite five increases in the cash rate during this period. At the same time, some of the inflationary pressures that were seen during that period were contained due to the actions of the Reserve Bank. While we could not argue that this policy was 100% successful, at the very least we can say that the goal of making economic growth sustainable was very much a part of the RBA's thinking at that time.

Current Page: Sustainable Economic Growth