Jun 25, 2019 in Exploratory

Interpreting Economic Data

Executive Summary

When seeking to understand a given economy, economists have been known to use a number of key indicators including the real GDP growth, some aspects of the monetary policy including interest rates and money aggregates, as well as inflation and CPI. It can be appreciated that each one of these indicators has a direct correlation with the economy whether it is as a trigger for an economic situation or a result of an economic situation. Using Australia as the example, it can be appreciated that the low inflation is an indicator of a stable economy with no risks of increased interest rates in the future. The country’s money aggregates are also very stable at the moment with rather small changes both in the positive and negative directions depending on the point of interest. This implies a balance in the amount of working money that is in circulation. The real GDP growth has also been consistent at an average of 2% for so many years, meaning that the country’s economy is genuinely growing at a steady rate. 

Introduction

Australia has always been considered amongst the strongest global economies with numerous false alarms and the ability to survive or recover fast from numerous recessions that hit the rest of the word really hard. Currently, the Australian economy is the only one in the world that has shown consistent growth for more than five decades. Regardless of the situation in the global business front, the country seems to always have a reason and the means to grow economically. Over the recent years however, there has been a lot of concern regarding the actual health of the Australian economy. With the consistent GDP growth, some skeptics have lost faith in the significance of these numbers in providing the actual state of the economy. Without these numbers however, any interpretation of the economy would be more of a wild guess. In order to understand what is going on within the Australian economy, this report examines the most reliable economic indicators which include the real GDP, monetary aggregates, interest rates, inflations and CPI among other things. 

Real GDP Growth and Why It Is an Important Economic Indicator

GDP is basically the total market value of goods and services produced in one country within a specific time frame. Most countries have their GDP calculated annually and thus represented in terms of percentage growth based on the numbers from the previous year (Economist & Stuteley 2010). This means that GDP growth is an increase in the market value of the country’s total productivity. An increase in market value implies an increase in the achievable revenue from the sale of that produce, which in turn translates to more money within the country in question. Real GDP is on the other hand the value of the GDP as calculated based on a fixed currency rate. Most commonly, countries calculate their real GDP using the dollar rate in a particular year like 2000 (Reserve Bank of Australia 2015). This ensures that any real GDP growth calculations are relative and accurate and can thus give a clear indication of where the country’s economy is heading. Real GDP is thus not just a random calculation of market value but also a representation of that market value using a consistent unit through the years. Using the 2000 dollar value for example, it is easy to tell how much the Australian economy has grown in the past 15 years since all the numbers are obtained using the same unitary value (Downes & Reserve Bank of Australia 2014). 

 

The concern here is thus why real GDP is a key economic indicator. From a simplistic perspective, one can note that GDP is simply a representation of the company’s economic production and growth. If the total value of goods and services produced within a country has declined, chances are that the country has generally made less money in that year. This means that companies within the country will have lower profit margins, the government will get less revenue in taxes, a good number of citizens will remain unemployed, and the stock markets will also generally decline due to the lower share prices that come with limited profits. Real GDP considers not just the market value of the products and services in question but also their real value when evaluated using a specific and basic unit. This takes into account possible fluctuations in currency values and market conditions in the global business arena (Downes & Reserve Bank of Australia 2014). A negative real GDP growth thus affects every aspect of the economy. Considering all these from the Australian angle, it can be noted from the figure below that the country has been enjoying some consistent real GDP growth from way back in the 1990’s. 

Figure 1: Australia’s GDT growth from 1995-2015 

Other large economies including the USA and Japan have at some point registered a negative growth in their real GDP but Australia has been consistently on the upper side of the graph. This implies that the Australian real GDP is consistently on the increase. From the graph below, it can be noted that the average real GDP growth experienced by in the Australian economy is about 2% (Reserve Bank of Australia 2015). This is not only reassuring but also very commendable. Most of the strong economies like the USA and Japan have had some significantly low real GDP growth values, with some negative results at some point as well. Australia is primarily the only country that has managed to stay above the 0 at all times.

Figure 2: Annual average % change in Australia’s Real GDP

Aspects of Monetary Policy

Monetary policies are generally a set of actions that governments, through their Central Banks, can take up in a bid to correct the money supply within their country. Money supply is basically the amount of currency that is in circulation within a given country. In terms of why a government would want to control the money supply, it must be noted that when there is too much money in circulation the country is at risk of high inflation rates (Walsh & Yu 2012). When the money supply is too low on the other hand, more people are unemployed, the stock market drops due to lower share prices, more people are unemployed and more companies generally have less business and thus less profit. From a general perspective, it can thus be appreciated that monetary policy is mainly about how the government is able to manipulate and thus manage the economy of that given nation. Each government has a way of handling their monetary policy depending on the circumstances. 

It could be expansionary or contractionary depending on the situation. Expansionary monetary policies are usually aimed at increasing the amount of money in circulation. This is usually done by lowering the interest rates so that more people and businesses can access funding. Alternatively, the bank can lower the reserve ratio so that banks can give out more money as well. Another way to increase the money supply would be to buy bonds and thus allow the banks to have more money instead. This also works by placing more money in the country’s markets. The expected results include higher consumer spending, higher profit margins for businesses, and higher share prices in the stock market as well as lower unemployment rates. A contractionary approach is on the other hand often limited to the need for curbing high inflation rates in the country (Walsh & Yu 2012). When the money supply is high, businesses tend to hike the price of consumer goods since the supply for money somehow limits its value in the market. Here, the government could increase the interest rates, increase the reserve ratio or start selling bonds just so as to reduce the amount of money that is in circulation within the nation. Either way, the central bank often has a good reason for using monetary policies within their economies. This is why the monetary policies in action within a given country are often a clear indication of the economic situation within that country.         

Interest Rates

Lowering the interest rate is fundamentally an act by the central bank aimed at promoting economic growth. When the interest rates are low, banks are able to give out loans at a reasonable interest rate. This in turn means that more people can afford the credit. It can be noted that when the interest rates are revised downwards, more individuals and businesses seek funding for investment, buying equity and real estate as well as for spending in recreational and household expenses among other things. It can thus be appreciated that interest rates generally indicate the government’s mindset regarding the status of the economy. And when the government is not focusing on the country’s interest rate, it can be assumed that the economy is actually safe. Countries that tend to reduce their interest rates are generally not healthy considering that their economy requires frequent stimulation. A reduction in interest rates however can also imply a need for the government to cushion the citizens from global financial crises.   

Generally, a low interest rate implies more working money, which in turn means low unemployment rates. The Australian economy has been witnessing a rather consistent low with regards to its interest rates. The country is currently averaging at 2.0% (Reserve Bank of Australia, 2015). This may not necessarily be the lowest in the world considering that the interest rates in the US stand at 0. 25, in Japan it is at 0.0% and in the UK it is at 0.5% (Reserve Bank of Australia, 2015). The last steep reduction of interest rates in Australia was witnessed between December 2011 and May 2012 when the change in cash rate was at -0.50. Before this, the RBA had had to lower the interest rates between 2007 and 2008 in order to boost the economy especially owing to the high unemployment rates that were being recorded at the time (Reserve Bank of Australia, 2015). The rest of the numbers indicate a steady trend whether going up or down. What this means is that the Australian economy is not witnessing any threatening circumstances that could lead the RBA to revise the interest rates drastically. A stable interest rate is an indicator of stability within the economy since the government has not seen a need to revise the interest rates upwards or downwards. 

Figure 3: Australia’s Cash Rate and 90-day Bill yield from 2005-2015 

Monetary Aggregates

By definition, monetary aggregates are generally a measure of the amount of money that is in circulation within a given country. In measuring money, the common features include M0, M1, M2, M3, BM and Money Base (Walsh & Yu 2012). M0 is basically the amount of coins and notes in circulation, commonly referred to as currency (Walsh & Yu 2012). M1 is M0 plus any current bank deposits and credit that are considerably easily accessible for the general market (Walsh & Yu 2012). M2 is M1 plus travelers checks and other deposits, and M3 is M2 and deposits from all the non bank sectors that are mostly private (Walsh & Yu 2012). BM then includes M3 and any other borrowings from the private sector, while Money base is currency within the Central Bank and the private sector. 

Generally, money aggregates provide a clear picture of how much money the country has in circulation, and thus how balanced the economy is considering that too much working money results in an inflation, which then results in higher interest rates. In Australia, it can be appreciated that the working money is rather limited and has only been increasing in a small scale over the past few years. Between August 2014 and 2015 for example, the difference is rather small as shown in the figure below. The RBA mainly focuses on M1, M3 and BM in calculating the money aggregates that can be used as an indicator for the Australian economy (Reserve Bank of Australia, 2015). Other than the fact that there is more money for business and housing, it can be noted that the Australian money aggregates are relatively stable and there is no risk of inflation in the near future. 

Table 1: Percentage changes in Australian monetary aggregates between 2014 and 2015 

Year-ended

Aug 2014Aug 2015

Total credit 5.1 6.3

– Housing 6.6 7.5

– Personal 1.0 0.7

– Business 3.2 5.3

M3 8.1 6.4

Broad money 8.0 6.5    

Inflation and CPI

Inflation and CPI are highly interconnected, mostly because CPI is the major determinant of inflation; or rather inflation is often calculated based on CPI. Inflation can be defined as the rate at which the prices for consumer goods are changing, while CPI is the change in prices for the consumer goods as calculated based on set price indices on a constant basket of household goods. This means that inflation is mostly the rate at which CPI changes (Gillespie 2014). From a simplistic perspective, it can be observed that inflation is an indication of a high money supply within the country. This leads businesses to increase the cost of their products since the people have a lot of money anyway. Inflation may indicate that the economy is really good, thus the consensus that deflation is a sign of a bad economic trend. The acceptable level of inflation however has to be between 2% and 3% at any given time (Gillespie 2014). Anything higher than that may require some government intervention depending on the situation at hand. From an economic perspective however, it can be noted that inflation is often an indicator of an impending upward revision of the interest rates. This is why most economists pay so much attention to the inflation numbers. When the inflation starts rising, a lot of people start buying credit as they anticipate the higher interest rates in order to make a killing before the government attempts to regulate the money supply in the market. For Australia, the current inflation numbers are rather low at 1.5 while the CPI stands at 107.50 (Trading Economics 2015). The previous readings indicated an inflation of 1.3 and a CPI of about 106.80 (Trading Economics 2015). This means that the trend is rather consistent with notably small changes in the numbers. The Australian economy is thus healthy since there is some inflation, but there is no risk of hiked interest rates due to high inflation. The current rates are rather acceptable to the government seeing as the unemployment rates have actually stabilized as well at 6.1% (Trading Economics 2015). 

Conclusion

The recent concerns regarding the Australian economy have been based on the fact that the mining industry has been declining steadily for the past few years. The reality however is that the Australian economy is no longer heavily dependent on mining. The country has a host of other significant contributors to the GDP including the agriculture and services industries. It is thus significant that the interest rates, real GDP growth, money aggregates, as well as inflation and CPI are seen as accurate economic indicators since in this case, they offer a rather clear picture of where Australia is economically. The government may have played their monetary policies to help stabilize the economy in the past but currently everything seems to be going as planned.

logotype

Related essays