i j macfarlane : australia and the international cycle talk by mr i j macfarlane, governor of the reserve bank of australia, to australian business economists / economic society of australia ( new south wales branch ) forecasting conference dinner, sydney, 6 december 2001. * * * i last spoke at this conference dinner two years ago, and a lot has happened to the australian and world economies since that time. i am pleased to be invited back and given a platform from which to share a few thoughts with you tonight. in keeping with the theme of the conference – which is about forecasting – i will address the issue of how well placed the australian economy is to handle the challenges of the next year, particularly the international challenge. in a sense, the talk will also be a replacement for my regular half - yearly report to the parliamentary committee on economics, finance and public administration. because of last month ’ s election, there has not been time to re - form the committee and schedule a hearing date in the current half - year. i will start tonight by showing a graph which compares australia ’ s current economic expansion with its predecessors in the 1970s and 1980s. some people may think i am tempting fate by showing this graph at this particular juncture, but i have been doing so, from time to time, over the past three years without ill effect. what the graph shows is that the current expansion is a good deal longer and smoother than its predecessors. one of the most important reasons for this is that inflation has been a lot lower on average and less variable than in the earlier expansions. monetary policy, therefore, has been able to play a different role than formerly – one that involves earlier movements in interest rates, but with smaller amplitudes of movement. the inflation targeting framework has been a crucial element in bringing about this result. diagram 1 : expansions in gdp cyclical trough = 100 index index 1990s 1980s 1970s years since trough table 1 expansions in gdp length of expansion in quarters total increase average growth rate number of quarterly declines standard deviation of quarterly growth rates average inflation rate standard deviation of quarterly inflation percent. 1970s 1980s 1990s 26. 6 3. 1 1. 1 11. 2 1. 2 36. 5 4. 5 0. 9 6. 9 0. 7 40 so far 45. 6 3. 8 0. 6 2. 4 0. 3 percentage points. for most of the period of the current expansion, the international background has been benign. the exception until recently was the

recovery. we can be confident that our economy will bounce back and that we will see it recover. we need to remember that once the virus is satisfactorily contained, all those factors that have made australia such a successful and prosperous country will still be there. inevitably, the timing and pace of this recovery depend upon how long we need to restrict our economic activities, which in turn depends on how effectively we contain the virus. so it is difficult to be precise and it makes sense to think in terms of scenarios. consistent with this, the bank will discuss some possible scenarios in the statement on monetary policy in a few weeks ’ time. one plausible scenario is that the various restrictions begin to be progressively lessened as we get closer to the middle of the year, and are mostly removed by late in the year, except perhaps the restrictions on international travel. under this scenario we could expect the economy to begin its bounce - back in the september quarter and for that bounce - back to strengthen from there. if this is how things play out, the economy could be expected to grow very strongly next year, with gdp growth of perhaps 6 – 7 per cent, after a fall of around 6 per cent this year. there is though quite a lot of uncertainty around the numbers, with the exact profile of the recovery depending not only upon when the restrictions are lifted but also on the resolution of the uncertainty that people feel about the future. it is harder to make forecasts about the unemployment rate given the uncertainty about how many employees will remain attached to their firm and whether people who are stood down will be looking for employment and thus be counted as unemployed. but it is likely that the 2 / 5 bis central bankers'speeches unemployment rate will remain above 6 per cent over the next couple of years. with many firms delaying or cancelling wage increases, year - ended wage growth is expected to decline to below 2 per cent, before gradually picking up again. in underlying terms, inflation is expected to remain below 2 per cent over the next couple of years. of course, there are other scenarios as well. on the optimistic side, the restrictions could be lifted more quickly, with the virus being contained. in that case, a stronger recovery could be expected, particularly in light of the very large monetary and fiscal support that is in place. on the other hand, if the restrictions stay in place longer, or they have to be reimposed, the recovery will be delayed and interrupted. in that case, the