Document Index Budget Paper 1 Budget Statement 3

Part I: Introduction

Since the onset of the East Asian economic and financial crisis in late 1997 the Australian economy has continued to record strong growth, despite many of Australia's Asian major trading partners (MTPs) experiencing recession and a consequent slowdown in world economic growth.

Defining features of the Australian economy are a sound macroeconomic policy framework and greater efficiency and flexibility that have resulted from significant microeconomic reforms affecting product, capital and labour markets. This allowed the exchange rate to decline since late 1997 in an orderly fashion against the United States dollar and European currencies, while maintaining a stable and low interest rate environment that has helped to sustain domestic demand. In short, sound policies have underpinned the resilience of the economy in weathering the Asian downturn.

The decline in the exchange rate cushioned the effect of lower commodity prices and provided opportunities for commodity exporters to find alternative markets outside the recessed Asian economies. This has been assisted by the relative strength in the United States and European economies.

On the other hand, exports of elaborately transformed manufactures (ETMs) and services have been affected to a much larger extent -- not only compared with the impact on commodity exports, but also with respect to previous periods of weak world growth in the early 1980s and early 1990s. This reflects the importance of Asian markets and the difficulty in finding alternative markets for these items in the short term. As regards Australia's terms of trade, the decline has been relatively moderate compared with past episodes, with the effects of lower world commodity prices being partly offset by falls in world prices for many of our imports.

The Australian economy has been cushioned by the ongoing strength in domestic demand, supported by: lower short and long-term interest rates; strong productivity growth; sustainable wages growth; strong employment growth and falling unemployment; healthy corporate profits; and low inflation and inflationary expectations. This favourable combination is the outcome of a sound macroeconomic policy framework that has delivered sustained low inflation and sound public sector finances, coupled with an ongoing microeconomic reform agenda that has delivered higher productivity growth and a more responsive and flexible economy.