Reserve Bank of Australia Annual Report – 1967 The Year in Brief

During 1966/67 internal equilibrium was broadly maintained while the economy continued to grow and to respond to a changing composition of demand. The year began with some moderate excess capacity in the economy but this largely disappeared as the growth of expenditure accelerated. Even so, the rise in prices over the year was fairly modest although the rate of increase became more rapid in the final quarter of the year. Real output per head fell during 1965/66 but resumed an upward trend in 1966/67; to some extent this was the result of the marked change in rural output during these years but it is also clear that non-farm productivity rose more rapidly in 1966/67 than in the previous year. Externally our balance of payments deteriorated but the loss of reserves during the year was not sufficient to cause immediate concern.

At the beginning of the year the balance of payments was fairly favourable and international reserves had been rising for a number of months. Capital inflow had been very substantial in the closing months of 1965/66 although these levels were not expected to be maintained. More significantly, imports had fallen to a fairly low level. On the domestic front, however, unemployment was still rising.

Prospects, although clouded by the possibility of the drought continuing, were for a continuation of a moderate rate of growth in aggregate expenditure. There were, however, widely diverging trends in the major components of expenditure and while private investment expenditure was expected to fall the magnitude of the movement was quite uncertain. Domestic capacity to produce was certain to increase, and there was the possibility that the growth in expenditure would not be sufficient to bring the economy closer to a position of domestic balance. Externally the outlook was for a fall in reserves as imports resumed an upward trend. Capital inflow was also expected to fall from the earlier peak levels in view of the restraints that had been imposed on capital outflows by some overseas countries and the generally tight international capital situation. This expected fall in capital inflow from overseas was an important element in the prospective domestic financial situation and funds from local sources seemed likely to be in increased demand. Even so, it looked as if conditions in domestic capital markets would remain relatively easy.

The general tone of policy for 1966/67 was set by an expansionary fiscal policy which provided a stimulus to incomes and, consequently, private expenditure. Thus the budget provided for a net increase in indebtedness in respect of outlays with in Australia considerably greater than it had in 1965/66. Monetary policy supported this with a number of measures which provided some modest stimulus early in the year. During the first half of the year stimulus was given by removing existing restraints on bank lending and by requesting savings banks to at least maintain their earlier high level of lending for housing.

A number of other changes which were partly technical in character but which would have tended, in general, to provide some further modest stimulus to the economy were made during the year. These included a reduction in the rate of interest on fixed deposits for shorter periods to maturity and a reduction in short and medium term Government security yields. There was also a replenishment of the Term Loan Fund Accounts, part of which came from funds in the Statutory Reserve Deposit Accounts. In addition, banks were given permission to undertake personal instalment loans at interest rates outside the maximum overdraft arrangements.

As the year progressed, activity quickened and there were some signs of diminishing excess capacity. Unemployment, however, did not decline. The rate of growth of expenditure accelerated with a continuing rapid increase in public expenditure being supplemented by a sharp increase in exports and a slightly faster rate of growth in personal consumption. Private investment expenditure levelled out during the year and was showing signs of resuming an upward trend when the year closed.

On the supply side, rural production increased substantially from the drought-affected 1965/66 level with the advent of more favourable climatic conditions. However, as a result of the early hesitancy in expenditure and efforts to reduce stocks, industrial production and civilian employment increased only modestly over the year although again the rise was more pronounced in the later part of the year. The increase in employment over the twelve months to June was not quite sufficient to absorb the rise in the workforce and at the end of the year the number of persons registered for employment was a little higher than twelve months earlier.

Imports showed the most pronounced response to the acceleration in expenditure and, despite a rapid rise in exports; the deficit in our overseas current account increased, on a seasonally adjusted basis, from a trough in the September quarter. For the year as a whole, however, it was less than it had been in 1965/66. Even so, capital inflow was not sufficient to finance the current account deficit and there was an unfavourable net monetary movement of some $125 million over the year. Changes in capital flows associated with official and marketing authority transactions played a part in the net fall in capital inflow during the year but, in addition, private capital inflow fell, as expected, from the unprecedentedly high level recorded in 1965/66.

Domestic financial conditions were rather easy throughout the year. Creditworthy borrowers were generally able to arrange the financial accommodation they wanted and short and medium term interest rates declined during the year.

There were some changes in the financial positions of the major sectors in the economy. The private sector, as a whole, almost matched its income and expenditure during the year whereas in 1965/66 it had incurred a sizeable deficit. Public authorities, on the other hand, incurred a deficit considerably greater than in 1965/66. The combined deficit of these two sectors was less than in the previous year as is evident from the smaller surplus earned in Australia by the overseas sector.

Financial operations associated with the larger Government deficit, and a sizeable increase in Rural Credits advances, although offset to some extent by a fall in international reserves, resulted in an increase in private sector's holdings of cash and Government securities considerably greater than had occurred in 1965/66. The increase in non-bank private sector's holdings of cash and Government securities was more than double the increase in 1965/66 while the increase in bank holdings of L.G.S. (liquid assets and Government securities) assets was slightly less than in the previous year. The rise in banks' L.G.S. assets seemed to be both adequate and appropriate and the required Statutory Reserve Deposit ratio was not changed during the year apart from a reduction releasing funds to help replenish the Term Loan Fund Accounts.

Net borrowing by the private non-finance sector was less than in the previous two years. The sector's holdings of financial assets increased rapidly. This was particularly true for cash, bank deposits and Government securities but holdings of many other financial assets also increased significantly. On the other hand, the increase in the liabilities of the private non-finance sector was only a little greater than in the previous two years. Lower borrowing from abroad has already been mentioned. There was a moderate increase in lending by non-bank intermediaries while lending by banks rose substantially.

Over the year trading bank advances rose by $365 million. During the past eighteen months the demand for funds from banks may have been influenced by changes in the level of private capital inflow. Thus bank advances rose less than seasonally in the June quarter 1966 when capital inflow was at a particularly high level. Since then capital inflow has fallen away although there was a partial recovery in the second half of the year. Bank advances, on the other hand, followed a sharp upward trend during most of 1966/67 although the rate of increase declined a little in the final quarter of the year.

Graph 1

Economic Activity

Graph Showing Graph Showing Economic Activity

In the closing months of the year, after new lending had risen considerably and the rate of growth in activity had accelerated, policy became a little restrictive and banks were asked to moderate their new lending.

Over the past two or three years, fluctuations in economic activity have been contained within relatively narrow limits. Fiscal policy has tended to set the general policy framework by modifying the level of disposable incomes while monetary policy has made adjustments around this level of income by influencing the cost and availability of finance. It is true that in recent years there do not appear to have been the rapid shifts in attitudes to holding various financial assets which have proved to be unsettling disturbances in the past. This is probably accounted for, to some extent, by the wider and presumably more attractive range of Government securities and bank deposits available. However, asset holders also appear to have generally adopted a cautious attitude to the form in which they hold their surplus funds and have tended to acquire safe assets. In addition, in a situation where government spending was increasing rapidly, there were no sudden upsurges in consumer demand, such as have been associated in the past with some innovations in the durable goods field, to make the achievement of balance more difficult.

At the end of the year most economic indicators were tending to follow an upward trend and this suggested that the general level of activity would continue to rise. It was clear that a modest acceleration in aggregate spending was continuing. Public expenditure was still rising strongly with increases in defence spending continuing to be important. Personal consumption was maintaining the faster rate of growth evident throughout the second half of 1966/67. An upward trend appeared to be emerging in private non-residential investment spending, and dwelling expenditure was the only major category of private investment spending which did not seem to be growing as rapidly as at the beginning of the year.

Graph 2

Selected Economic Indicators

Graph Showing Graph Showing Selected Economic Indicators

On the supply side there was scope for a larger increase than had occurred in 1966/67 in domestic non-farm output but with expenditure rising more rapidly it seemed that the economy was likely to remain fairly close to a position of domestic balance.

Imports were rising in response to increasing demand and in view of this and the high level of government commitments for purchases of defence goods, were expected to remain high. Fortunately, export prospects were fairly bright. Rural output was expected to remain at a fairly high level and, in addition, there was a substantial carry-over of wheat from the previous year. Further rises in exports of iron ore were assured.

A higher minimum price for wheat was set by the countries participating in the Kennedy Round discussion. At the end of the year, the member countries of the International Wheat Council were meeting to negotiate the inclusion of this price in a new International Wheat Agreement. However, there may be little effect on short term export proceeds since the current selling price is above the new minimum. The tariff reductions negotiated under the Kennedy Round did not apply automatically to Australia but subsequent bilateral negotiations resulted in tariff concessions being given by Australia over a range of imported goods in return for improved access in overseas markets for some Australian exports. The concessions, however, related to goods which comprised only a relatively small proportion of total imports.

With the United Kingdom and United States continuing to maintain restraints on capital movements it seemed unlikely that capital inflow would rise sufficiently to prevent some further loss in reserves but the fall was not expected to be sufficient to cause serious concern. The possibility of the United Kingdom entering the E.E.C. could also reduce the flow of capital to Australia, at least for some time. Clearly, declines in our international reserves cannot be allowed to continue indefinitely and if the present downward trend continues we may be faced with a more serious conflict between domestic and external balance.

Policy action, if it becomes necessary, should take into account the long run need to sustain relatively stable prices and to increase productivity. Imports, in recent years, have played a significant part in stabilizing prices and avoiding bottlenecks. Short term measures which protect the inefficient are undesirable because they reduce aggregate production below its potential. Rather, capacity to produce should be developed as rapidly as possible and policy should be designed to prevent it being outstripped by growth in domestic demand.

At the end of 1966/67 financial conditions were still relatively easy but demand for finance appeared to be rising. However, many financial intermediaries were well placed to meet increases in demand for finance and, in addition, private sector holdings of most liquid assets had risen strongly in 1966/67 and were a potential source of finance to cover rising expenditure.