i j macfarlane : the australian economy - past, present and future talk by mr i j macfarlane, governor of the reserve bank of australia, to 2002 melbourne institute economic and social outlook conference dinner, melbourne, 4 april 2002. * * * it is an honour to be invited here this evening to give this address, although i must confess i am somewhat daunted by the task. we have heard so much in this conference on such a broad range of economic subjects by such a distinguished group of speakers that i have been presented with a difficult act to follow. i have also been given a very broad topic, so i will have to confine myself to making only a few comments on each part of it. i would like to start with the proposition that australians, on the whole, tend to be pessimists about the country ’ s economic situation and about its future. this is not always the case as there are occasions, such as the present, where a degree of optimism breaks out, but these are the exceptions rather than the rule. while australians are often optimistic about their personal economic prospects, they are seldom so about the economy ’ s prospects. i have spoken about this before and produced various pieces of anecdotal evidence to support my view. more objective evidence is available in the form of answers to surveys, which show a clear propensity for respondents to judge the economy more harshly than their own economic prospects ( about which they presumably know more ). why is there such low confidence in our economic situation, even by people who are reasonably confident about their own economic circumstances and prospects? the usual answer is to blame the press, but i think this is a bit superficial. the allegation is true in only one sense : there are a lot more economic stories on the front pages of newspapers in australia than in other countries. and since there is a natural tendency for the press to give more prominence to bad news than good – just as we hear more about war - torn countries than peaceful ones – this tends to increase people ’ s exposure to bad economic news. the past i think a deeper answer to why we tend to be pessimistic is to be found in our attitude to our economic past, which tends to be dominated by a strong element of nostalgia. while in other areas of our political and social history we may be revising downwards our assessment of our forebears ’ achievements, this is not so in the economic sphere. there is still a tendency

spending, together with softer consumption on account of lower incomes. one thing which is not very different from the forecast from two years ago is that mining sector capital spending is falling sharply. • because the net effect of the above factors is that gdp growth has been on the weaker side of expectations, the unemployment rate is about half a percentage point higher than forecast two years ago. consistent with that, growth in wages is, as you would expect, lower than forecast. • headline inflation is lower than forecast, largely because of the recent fall in oil prices. underlying inflation is within the 2 – 3 per cent range that had been forecast. again, the depreciation of the exchange rate has been a factor here. • the cash rate is 75 basis points lower than assumed two years ago, as monetary policy has used the room provided by contained inflation to try to do more to help growth. lending rates have fallen on average by about 100 basis points over that period. this has produced a stronger result for housing construction than forecast and will also have contributed to the rise in dwelling prices. in summary, the economy has in several important respects followed a different track from the one expected a couple of years ago. that is partly because conditions in the world economy were different from what had been expected and partly because several domestic factors were different. some in - built responses have been in evidence. for example the decline in the exchange rate, even if not by as much as we might have expected, has had the effect of supporting growth and keeping inflation from falling as much as it might have done. and, of course, monetary policy has also responded to the evolving situation, consistent with the reserve bank ’ s mandate. these responses have had the effect of lessening the extent to which growth and inflation have differed from the outcomes expected two years ago, but haven ’ t managed to eliminate those differences entirely, at least in the case of output growth. the slowing in wage growth in response to soft labour market conditions has also undoubtedly helped to hold employment up. in fact wage growth appears to be somewhat lower than previous relationships between wages and unemployment would suggest. this may be a sign of increased price flexibility in the labour market and could help to explain why employment recently has looked a little higher relative to estimated gdp than might have been expected. these hypotheses can be advanced only tentatively, though, until we have more data. bis central bankers ’ speeches looking ahead, the most recent forecasts suggest that growth rates will be similar