Document Index Budget Paper 1 Budget Statement 2

Part I: Overview

Following very strong growth in excess of 4 per cent in 1997-98 and 1998-99, the Australian economy is expected to grow by a solid 3 per cent in 1999-2000. This growth has occurred in the face of the East Asian financial crisis and the slowdown in the world economy more generally. Fundamental to this resilient performance has been sound fiscal and monetary policy, and the benefits of on-going microeconomic reform.

The expected moderation in growth in 1999-2000 from the previous two years reflects the impact of continued below trend growth in the world economy on the domestic economy, particularly business investment, as well as a slowing in the growth of some other components of domestic demand, including consumption. Nevertheless, the outlook for growth remains very favourable compared with other developed economies and countries in the region. Continued low inflation and further solid growth in employment are expected, with the unemployment rate consolidating recent falls to remain around 7½ per cent over 1999-2000.

The world economy is estimated to have grown by 1¾ per cent in 1998 and is expected to maintain that growth in 1999, before strengthening to around 2½ per cent in 2000. This compares with the long-term average growth rate of around 3 per cent per annum.

The Australian economy performed more strongly than expected in the first half of 1998-99. This, together with evidence of continuing strong consumer demand, solid employment growth and a high level of job vacancies, has resulted in the 1998-99 GDP growth forecast being revised up significantly to 4¼ per cent, a full percentage point above the figure reported in the 1998-99 Mid-Year Economic and Fiscal Outlook (MYEFO) in December 1998. While the impact of the international downturn is clearly evident in the sharp decline in world commodity prices, well below trend growth in export volumes and a decline in Australia's terms of trade, domestic demand remains strong, supported by favourable domestic policy settings.

GDP growth in 1999-2000 is expected to be around 3 per cent in year-average terms. The moderation in GDP growth compared with the previous year is expected to occur largely in calendar year 1999, with a pick-up in calendar year 2000 as the world economy gradually strengthens. Growth through the year to the June quarter 2000 is expected to be around 3½ per cent. The moderation in growth largely reflects: more moderate growth in private consumption at rates closer to the longer-term trend, following very strong growth in the two previous years; a reduction in private non-residential construction from recent high levels; relatively stable dwelling investment; and slower growth in public demand. Partially offsetting influences are expected to be a pick-up in export growth, as well as some pick-up in plant and equipment investment growth as the international economy gradually strengthens.

Solid employment growth of around 1¾ per cent is forecast in 1999-2000, following strong growth of around 2¼ per cent in 1998-99. The unemployment rate is forecast to average around 7½ per cent in 1999-2000, down from 8.3 per cent in 1997-98 and around 7¾ per cent in 1998-99. Underlying these forecasts is an assumed small increase in the participation rate from recent levels and a cyclical slowing in average labour productivity growth.

Inflation is expected to remain low, averaging 1¼ per cent in 1998-99 and 2 per cent in 1999-2000. Through the year to the June quarter 2000, inflation is expected to be around 2¼ per cent. Nominal unit labour costs are expected to grow a little more quickly in 1999-2000 in response to a cyclical slowing in average labour productivity growth from recent very high rates, although slower growth in domestic demand will limit the flow-through into retail prices. International deflationary pressures may also become less marked as the effects of falling world commodity prices run their course and as the troubled East Asian economies begin to recover.

The current account deficit (CAD) is forecast to average around 5½ per cent of GDP in 1998-99, compared with a little over 4 per cent in 1997-98. This widening of the CAD reflects the impact of the slower world economy on both net exports and Australia's terms of trade. The CAD is expected to decline in 1999-2000 as a share of GDP (to around 5¼ per cent), as exports respond to a gradual strengthening in the world economy and the terms of trade improve slightly. Volatility in the various components of the external accounts could result in the CAD as a percentage of GDP being higher in any one quarter than the expected average for the year.

Major uncertainties continue to surround the outlook for world economic growth, particularly in Japan and some emerging markets. While there are signs of recovery in some East Asian economies, and an improvement in the economic performance of these economies is expected in 1999-2000, continuing structural problems, particularly in the financial and corporate sectors, raise questions about the sustainability of that improvement. Similarly, there remains the possibility of further periods of instability in other emerging market economies. Against this, however, the United States could continue to exceed expectations.

Against the backdrop of these international risks, there are also significant uncertainties about the timing and extent of the expected moderation in growth in the Australian economy. While business investment looks to be slowing after six years of strong growth, it is by nature volatile and difficult to predict, being subject to both domestic and international influences. There is also some uncertainty around the net impact of rising household debt and rising household asset values on future consumption expenditure. The timing of both business investment expenditures and household consumption expenditures in the latter part of 1999-2000 are also likely to be affected to some extent by the introduction of the Government's tax reform package, A New Tax System.

Table 1: Domestic Economy Forecasts^(a)

1. Percentage change on preceding year unless otherwise indicated.
   
2. Calculated using original data.
   
3. Chain volume measure. Reference year is 1996-97.
   
4. Percentage point contribution to growth in GDP.
   
5. 1997-98 outcome calculated at basic prices.
   
6. 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, `lumpy' imports of aircraft, ships and satellites, and the export of ANZAC frigates.
   
7. Average non-farm compensation of employees (National Accounts basis).
   
8. The estimate in the final column represents the forecast level in the June quarter 2000.