Statement 4: Australia's Terms of Trade - Stronger and Less Volatile
Part III: History of the terms of trade
The level of Australia's terms of trade has been in broad decline over the past century. The comparatively stronger level of the terms of trade in the first half of the twentieth century reflected the fortunate combination of Australia's natural resource endowments and relatively high prices for those commodities on international markets. It also reflected the relative stage of world economic development.
The trend decline in the terms of trade has been accompanied by considerable volatility, with the most prominent movements relating to dramatic changes in commodity prices and slowdowns in the global economy.
The most dramatic increases in the terms of trade were due to the impact of sharply rising commodity export prices in the early 1920s (Chart 1, point a) and the Korean War at the beginning of the 1950s (Chart 1, point b), with both episodes reflecting the boom in (and in the 1950s, the subsequent collapse of) wool prices. Further, the Great Depression (Chart 1, point c) and the Second World War (Chart 1, point d) coincided with periods of sustained declines in the terms of trade.5
Chart 1: The terms of trade, 1900-01 to 2000-01
Source: Butlin (1977) and ABS Cat. No. 5206.0 (annual data).
Chart 2 focuses on the terms of trade since 1960-61. The effect of the oil price spike in the mid-1970s can be seen in the decline in the terms of trade from point (e), which followed a commodity price boom. A period of weaker commodity prices in 1986 can be seen at point (f), the early 1990s world recession at (g)6 and the Asian financial crisis at (h).
In fact, since 1986 the impact of international developments on the terms of trade has fallen progressively - the terms of trade has exhibited markedly less volatility and perhaps a slight upward trend.
Chart 2: The terms of trade, December 1961 to December 2001
Source: ABS Cat. No. 5302.0. (quarterly data).
Another way to examine the changing volatility of the terms of trade over the past four decades is presented in Chart 3, which shows the standard deviation of movements in the terms of trade (over annual and decade periods) from 1960-61 to 2000-01. Again, the volatility of the terms of trade has been lower over the 1990s than any of the three previous decades.
Chart 3: Volatility in the terms of trade, 1960-61 to 2000-01
Source: ABS Cat. No. 5302.0 and Treasury.
This lower terms of trade volatility in the 1990s is also likely to have assisted in both reducing the volatility of economic growth and in lowering inflation by assisting macroeconomic management. Table 1 shows that volatility in both GDP growth and inflation was lower in the 1990s compared with the three previous decades. The second half of the 1990s, in particular, was notable for rising terms of trade, high GDP growth rates (with minimal volatility) and low inflation. Since 2000, the terms of trade has continued to rise.
Table 1: Trends and volatility in major economic indicators
Source: ABS Cat. No. 5206.0, 6401.0 and Treasury (quarterly data).7
5 The volatility of the historical series has been artificially reduced in parts, with the estimates from 1900 to 1913 recalculated from calendar year to financial year using a two-year moving average. Further, there is a conceptual inconsistency in the series with the inclusion of `invisible' exports and imports in the deflator from 1948-49 onwards (Butlin M.W., A Preliminary Annual Database 1900-01 to 1973-74, Reserve Bank of Australia, Research Discussion Paper 7701, May 1977).
6 While the recession commenced in Australia in 1990, in global terms it commenced in 1991; the decline in the terms of trade reflects lagged effects.
7 The 1960s are often seen as the `golden years', but when Australia is compared with the average of the OECD in terms of relative performance, the 1960s were Australia's worst years. See Henry, K.R., Australia's Economic Development, Address to the Committee for the Economic Development of Australia, 40th Anniversary Dinner, November 2001.
