Australia's Current Account Deficit
The record of all transactions between Australia and the rest of the world is known as the current account. The constituents of these transactions include goods and services, interest repayments on loans, and remitted profits by overseas owned companies, all of which play a role in the determination of whether the account is in a deficit or surplus state. For many countries a major problem is that a current account deficit severely effects foreign debt and can lead to the degradation in the economy.
Traditionally, Australia's main exports have been agricultural commodities. However, in recent times the trend for Australia's exports have leant to minerals and fuels. There are major problems in relying on these export areas, as the fluctuations in the world prices can be extreme and unpredictable. This was illustrated in the 1980's when the wool prices changed dramatically.
Due to Australia's lack in technology in contrast to other countries such as the USA and Japan, the main imports are manufactured goods. Unlike the commodities that are exported from Australia, manufactured goods tend to maintain or increase their world price.
The terms of trade index measures the relationship between the price of a country's exports and the price of its imports. In order to evaluate the terms of trade index:
Export price Index
= Import Price Index X 100
The export price index measures relative changes in the prices received for exports and the import price index measures relative changes in the prices received for imports over a period.
By completing this evaluation, you are able to indicate as to whether there has been a degradation or enhancement to the terms of trade within the concerned country.
Hence as the name suggests, an enhancement occurs when a country can purchase more imports with the same quantity of exports and vice versa.
As the prices for Australia's exports ie-primary commodities, have been either diminishing or increasing at a much slower rate than that of prices of manufactured goods being imported into Australia, the terms of trade for this country have been abrading. This circumstance has been occurring since the 1950's and has resulted in the pressurisation of Australia to produce more exports just to pay for the same level of imports. Thus playing a role in the current account deficit.
Foreign debt refers to liabilities owed by Australian residents to overseas residents. Australia has borrowed substantial amounts of money from foreign countries in order to account for the current account deficit and has hence accumulated over the years. This capital inflow will ensure a rising current account deficit in the future, this occurs because increased overseas borrowing is going to result in increased interest and dividend payments on the outstanding loans.
During the 1980's Australia's foreign debt rose substantially in money terms, it was $13 billion. By 1987 it had risen by 30 per cent. This was due to the persistent current account deficits.
High levels of foreign debt require servicing. These [next page]