Reserve Bank of Australia Annual Report – 1976 Australia and the World Economy

World trade and activity, though improving throughout 1975/6, remained generally subdued. In this environment, the growth of Australian exports slowed, particularly in the first half of the year.

3 Overseas Economic Conditions

In the early months of 1975 the world economy was close to the low point of its worst post-war recession. Thereafter activity began to recover – first in the United States but progressively in other major industrial nations. Such however was the depth of the recession that it was not until late 1975/6 that major countries regained the peak levels of activity achieved in the previous cycle. Rates of inflation slowed in 1975/6 but generally remained high. A number of factors, including the tendency for commodity prices to rise with returning activity and the higher costs of production from newer facilities, have engendered apprehension in some quarters as to the scope for further substantial reductions in world inflation rates. Unemployment has not been much reduced so far by the economic upswing, except in the United States and West Germany, and remains disturbingly high.

Financial and budgetary policies in most countries have been generally accommodating to economic recovery. Governments have seen it as important that the stimulus should not continue so far through the upswing as to generate a resurgence of inflation, and effort has been applied to restraining monetary growth, including the drawing of attention in some countries to monetary aggregates as targets or indicators of performance. Concern has also been evident about the size of budget deficits; intentions have been signalled, or steps have been taken, in various countries to pull back on public sector outlays.

The timing and strength of recovery has varied between countries. The end of inventory rundown was a common factor around the end of 1975. Consumer spending revived first in the United States where it provided early stimulus to recovery; an upturn in housing activity, and more recently in business outlays, particularly on inventories, have served to broaden the base of expansion. In Europe the recovery lagged behind that of the United States but by the latter half of 1975/6 was well established in Germany and France and was also emerging in the United Kingdom. The Japanese recovery was heavily dependent on public sector spending; private sector spending responded only slowly and recovery seemed to falter towards the end of 1975. More recently a strong expansion of exports – particularly to the United States – and some revival in private consumption have given the Japanese economy some stimulus.

There are disparities in the changes in inflation rates between countries. Those where earlier policies were tightest seemed to have achieved greatest success against inflation. On the other hand countries where past price increases were feeding more directly, through indexation or other means, into current factor costs, had less success.

In line with the upswing in activity, world trade began to recover during the first half of 1975/6. Throughout the year increasing imports pulled down the aggregate current account position of OECD member countries, particularly that of the United States. The counterpart to the deterioration was some improvement in the external positions of both the oil producing and the less developed non-oil producing countries (LDCs). Nevertheless, the problems of the LDCs remained serious. Expanding markets and higher prices for their primary commodity exports only served partly to offset the continuing high cost of oil imports. These countries have greatly increased their financial indebtedness to the rest of the world and have reduced their development programs.

Overseas Financial Conditions and Exchange Markets

Countries generally have been concerned to keep in check the rate of growth of monetary aggregates. Nevertheless, the supply of funds in major financial markets during 1975/6 was sufficient to enable most governments to finance their large budget deficits without excessive resort to central bank financing or putting much upward pressure on interest rates. Demand from private industrial borrowers was generally slack; long term borrowing was limited and largely undertaken to improve balance sheet positions rather than to finance long term investment. Interest rates, which were declining at the start of 1975/6, remained generally low in most major economies throughout the year; the notable exceptions were the United Kingdom and Italy, where rates were increased partly as a response to balance of payments difficulties. Towards mid 1976 there was some tightening of monetary policy, particularly in the United States.

Short term interest rate differentials did not appear to influence currency flows as much in 1975/6 as in earlier years. More important factors appear to have been differences in rates of inflation, differences in policy responses to the recession and developments in external accounts. The United States dollar remained very strong during the year despite concern about the implications of the financial difficulties of New York City. The currencies of Switzerland, Germany and Japan also appreciated during the year. On the other hand, countries which were having greatest difficulty reducing the rate of inflation saw their currencies depreciate, despite major official support. The pound sterling depreciated by 13 per cent against the SDR during 1975/6; the Italian lira and the French franc fell by 19 per cent and 8 per cent respectively.

International Monetary Reform and Institutional Developments

In 1975/6 international monetary reform discussions centred on the consolidation of new arrangements which have emerged in recent years. This process culminated in the agreements reached at the Interim Committee meeting in Jamaica in January 1976 on a comprehensive amendment of the IMF's Articles of Agreement. Ratification of the proposed amendments involves the slow process of legislation by member countries. Under the amended Articles, members will be able to adopt exchange arrangements of their own choosing, providing that members collaborate with the Fund and other members to avoid disruptive or unfair manipulation of exchange rates. The amendments involve a number of changes with respect to gold, including the abolition of the official price of gold and provision for the disposal of the Fund's gold holdings; these are designed to achieve a reduction in the role of gold in the international monetary system. After the new Articles are ratified, the sixth general increase in IMF quotas can be put into effect; this will increase aggregate Fund quotas by about 33 per cent to SDR39 billion. Australia's quota will increase by 19 per cent to SDR790 million.

4 Exchange Rates
PERCENTAGE CHANGE FROM JUNE 1971 PARITY WITH SDR ¹

Other developments in the IMF in 1975/6 included new or expanded financing arrangements for members. In December 1975, the Fund liberalised its compensatory financing facility, which is designed mainly to assist primary exporting countries that have experienced falls in export receipts below trend performance. Access to the normal credit tranches was temporarily increased by 45 per cent pending the coming into effect of quota increases. Developing countries will benefit also from the newly established “Trust Fund” which is to be financed from profits on the sale over four years of one-sixth of the gold held by the IMF; the first auction of part of this gold took place in June 1976. The resources available to the Fund under the borrowing agreements to finance the Special Oil Facility, however, were fully committed by April 1976.

The various problems facing developing countries continued to engage attention in many international institutions and world forums. Discussions ranged over both the immediate financing problems of these countries as well as the search for longer term solutions to their difficulties. World economic problems were discussed by the leaders of major industrialised countries at an Economic Summit at Rambouillet, France, in November 1975 and further at a second Economic Summit in Puerto Rico in June 1976.

In recent years increased attention has been given by national authorities to surveillance of international banking. International activities of banks have implications not only for the solvency and liquidity of the banks themselves but also for monetary conditions in the “host” country. The need for greater co-operation and for more precise understandings as to how they should share these responsibilities has been accepted by central banks.

5 Overseas Trade
(SEASONALLY ADJUSTED)

The Australian Balance of Payments

The subdued level of world trade and activity together with the effects of inflation affected demand for Australian exports (particularly minerals and manufactures) and contributed to competition from imports in the domestic market. As in most years since the mid 1960's, the current account of the Australian balance of payments was in deficit throughout 1975/6; for the year as a whole the deficit was $840 million. There was an apparent net outflow of private capital in 1975/6, compared with modest net inflows in each of the previous three financial years. Overall, the external accounts were in substantial deficit in the first half of the year, but close to balance in the second half. Shortly after the end of the financial year, reserves were augmented through a drawing of foreign currencies equivalent to $A309 million from the IMF under its compensatory financing facility.

Current Account

For 1975/6 as a whole, the trade surplus was almost double that in the previous year; this largely reflected a continuation of the surplus which emerged during the course of 1974/5, when the rate of importing declined. Net payments for invisibles continued their rising trend.

With a strong increase towards the end of the year, total exports in 1975/6 were 11 per cent higher than in the previous year; this compares with average annual increases in the three preceding years of over 20 per cent. Largely because of substantially higher prices for coal, and to a lesser extent iron ore, the value of exports of mineral based products was higher than in 1974/5, despite lower overall volumes. Shipments of many minerals were lower in 1975/6, particularly in the first half of the year, but exports of alumina increased. An increase in the total value of rural exports largely reflected some recovery in the volume of wool and meat shipments from the depressed levels of 1974/5. Exports of manufactures fared badly in 1975/6; exports of vehicles fell again and other categories of manufactures failed to maintain the growth of other recent years, even in current value terms.

6 Balance of Payments

The higher prices for coal were largely responsible for overall export prices being a little higher than in 1974/5. Beef and wool prices generally rose during 1975/6 but, with sugar prices well down from the high levels of 1974/5, and more modest declines for some other commodities, average returns for rural exports were a little lower than in 1974/5 and much the same as in 1973/4.

Despite the slackness of domestic demand and quotas on motor vehicles and some textiles and other consumer items, imports moved up through 1975/6; in the June quarter they were 22 per cent higher than twelve months earlier. However, because imports were at boom levels in the early part of 1974/5, the total value of imports in 1975/6 was only 3 per cent higher than in the previous year. The volume of imports followed a rising trend a little slower than that for the value of imports as, overall, import prices rose slowly for the greater part of 1975/6. Petroleum was more expensive but many other basic materials and even some manufactures were cheaper, or showed only small increases in price. Factors slowing the rise in import prices may have included the various devaluations in some supplying countries; more generally world demand was subdued, and industries in other countries were making efforts to maintain or expand their business by remaining competitive in price.

The deficit on invisible transactions continued its rising trend. On the payments side, transportation costs moved up again; property income payable overseas increased, following a fall in 1974/5. On the income side, property income credits were lower than in 1974/5 because of lower earnings on the investment of international reserves. Transportation credits continued to rise strongly. The overall current account deficit for the year was $840 million, little different to that in each of the two preceding years.

Capital Account

The small overall net outflow of capital in 1975/6 was the first outflow in a full financial year for more than two decades.

Government net capital flows produced a surplus of $20 million in 1975/6 in contrast to net capital repayment abroad in recent years. This reflected a resumption of net borrowing overseas on Government account in the second half of the year when a net $177 million was raised. Inflows on behalf of marketing authorities came to about $130 million in 1975/6 compared with a net outflow of $59 million in the previous year.

Apparent private capital flows fluctuated considerably throughout 1975/6; for the year as a whole there was a net outflow of over $300 million. There was a particularly large apparent outflow of about $500 million in December due largely to expectations of a possible devaluation of the Australian dollar. Following a statement by the Treasurer on 4 January that devaluation could not be justified in terms of Australia's balance of payments position and outlook, was not part of the Government's economic strategy, and would be contrary to the thrust of the Government's anti-inflationary policy, there was an apparent inflow of private capital in January/February. In part this seemed to reflect an unwinding of positions taken in December. Thereafter the rate of flow continued to fluctuate with little net overall movement in the final four months of the year.

Preliminary indications are that net borrowings from unrelated companies overseas in 1975/6 were well below the level of the previous year. In contrast to the inflow in 1974/5, there may have been little net movement of direct investment capital in 1975/6; net repayment of loans to related companies was a substantial offset to the reinvestment of profits made in Australia by overseas owned companies.

The Government's policy on foreign investment places major emphasis on providing maximum opportunities for Australians to participate in the ownership and control of Australia's industries and natural resources without restricting projects clearly not against the national interest. In a parliamentary statement on 1 April, outlining details of the administration of this policy, the Treasurer made it clear that the Government saw a bigger role for foreign investment in Australia. The statement also defined “key areas” in the natural resource field for which there would generally be minimum requirements for Australian participation. It outlined other areas where investment proposals would be “examinable” in relation to specified criteria, with each proposal being treated on its merits.

Monetary Movements and Reserves

There was an overall balance of payments deficit in 1975/6 of just over $1 billion compared with deficits of around $450 million in each of the two previous years. Over the twelve months to June 1976, the value of official reserve assets fell by $917 million to $2,576 million. At that date the reserves comprised $2,421 million in gold, SDRs and foreign exchange held by the Reserve Bank and $155 million in Australia's reserve position at the IMF. Gold held (7.4 million ounces) was virtually unchanged over the year. For balance sheet purposes it is valued at $32.46 an ounce which is the Australian dollar equivalent of the IMF official price at 30 June. On the same date the London market price equivalent was $A100. During 1975/6 the latter fluctuated between about $A100 and $A130. The difference between the fall in the value of official reserve assets and the overall balance of payments basis deficit largely reflects the relative strengthening of the United States dollar and some other currencies in which Australia's reserves are held.

The Bank's net oversold position under forward exchange contracts rose sharply in December 1975 when traders' concern about the future of the exchange rate was at its highest. The oversold position subsequently declined and at end June was about $600 million.

The Reserve Bank continued to set the exchange rate daily on a basis designed to maintain constant the average exchange value of the Australian dollar against the currencies of its major trading partners. The Australian dollar's value against individual currencies varied through the year, in some cases quite markedly. Reflecting the strengthening of the United States dollar on world markets, the value of the Australian dollar in terms of United States dollars declined during the year from about US$1.32 to around US$1.23; it also fell against the yen (from about Y390 to about Y370 per $A), but appreciated strongly against the pound sterling (from about £0.60 to £0.70 per $A).

In January, Part IV of the Banking Act was suspended and Australian residents became generally free to buy or sell gold in Australia. Previously all gold, apart from wrought gold and gold coins to a limited extent, had to be sold to the Reserve Bank within one month of coming into a person's possession.