The Current Trends in Australia's Balance of Payments

Australia's balance of payments reflects its strong engagement with the global economy, showcasing trends across various sectors including international competitiveness, terms of trade, international borrowing, and foreign investment.

Increased International Competitiveness

International competitiveness refers to a country's ability to produce goods and services that can compete effectively in the global marketplace. Australia's competitiveness in the global market is strongly influenced by its trade balance, which has been supported by high commodity prices. The demand for Australian mineral and coal exports has particularly driven significant trade surpluses. This positive trade balance enhances Australia's international competitiveness by strengthening its currency and economic stability.

Australia's natural commodities' increased demand stems from China, which is our largest trading partner. The following graph demonstrates the large portion of commodity exports that Australia's natural exports make up.

Australia's international competitiveness has thus been reflected in its balance of payments through a strong trade balance driven by high commodity prices, particularly for minerals and coal. In the 2023-24 financial year, the terms of trade increased by 2.8%, contributing to a record current account surplus. This surplus bolstered Australia's economic stability and strengthened the Australian dollar. However, challenges such as the high value of the Australian dollar and rising labour costs have made exports more expensive, impacting competitiveness. To mitigate these challenges, Australia has invested in education, research, and development, aiming to enhance productivity and innovation, thereby maintaining its competitiveness in the global market.

Increased Terms of Trade

The terms of trade represent the ratio of export prices to import prices. A higher terms of trade indicates that a country can purchase more imports for a given amount of exports. The terms of trade in Australia have seen improvements in recent times, largely due to rising prices for its exports compared to imports. In the 2020-21 financial year, Australia's terms of trade increased by 10.4%, primarily due to strong demand and high prices for iron ore and other commodities. Furthermore, in the 2023-24 financial year, Australia's terms of trade saw an additional increase of 2.8%, continuing the positive trend observed in recent years. Once again, this increase was driven primarily by strong global demand and high prices for key commodities, including iron ore and other mineral exports. However, we can see that the increase is less potent than that of the 2020-21 fiscal year. This is due to the world's overall recovery from COVID-19, decreasing the demand for Australian exports slightly, reducing their price and hence Australia's terms of trade.

Furthermore, the following bar graph demonstrates the described increase in Australia's terms of trade:

The terms of trade index has been improving year over year, illustrating that Australia is receiving more value for its exports relative to its imports. This improvement supports economic growth and increases national income.

However, the effects of growth in Australia's terms of trade were offset by the net primary income deficit. With $28.5 billion in outflows for the March 2024 quarter, primarily from interest payments on foreign debt, the overall balance of the current account was reduced. As such, we can see that the BOP is influenced by various factors which are all interconnected.

Increased International Borrowing

International borrowing refers to the funds that Australia borrows from overseas to finance its domestic investment and consumption. Australia has historically been a net borrower from the rest of the world, with the current account deficit being financed by net capital inflows. In recent years, Australia's international borrowing has been influenced by factors such as government budget deficits, private sector credit growth, and the availability of foreign capital. The composition of Australia's international borrowing has also shifted. With a significant growth in borrowing occurring through the issuance of government and corporate bonds, Australia's BOP has been impacted. By March 2024, Australia's net foreign debt reached $1,235.7 billion, highlighting the continued reliance on international borrowing despite a record current account surplus of $8.3 billion.

Increased Foreign Investment

The landscape of foreign investment in Australia has shifted in recent years. While reductions in Foreign Direct Investment (FDI) have been largely offset by rising portfolio investments, particularly driven by superannuation funds investing more in foreign equities. Australia continues to attract foreign investment due to its stable political and economic environment. By the end of 2023, Australia received significant net inflows of foreign investment, with total foreign investment reaching AUD $4.66 trillion. This was bolstered by strong demand for Australian government debt securities and ongoing interest in real estate and infrastructure projects. The financial account in the balance of payments reflects this trend, with substantial net inflows from portfolio investments. In the March 2024 quarter, the financial account recorded a net inflow of AUD 8.3 billion, underscoring the attractiveness of Australian financial assets to foreign investors.

Effects of Current Trends in Australia's Balance of Payments

The current trends in Australia's BOP thus have conflicting impacts on the economy as a whole: both negative and positive.

Economic Growth and Exchange Rates

One of the most notable impacts of a strong trade surplus, as seen in recent years, is its positive effect on economic growth. Surpluses increase the nation's wealth, reflected in a stronger Australian dollar. This appreciation in currency can make imports cheaper and affect the competitiveness of export sectors.

Increased Employment

A strong export sector, supported by favourable terms of trade as mentioned earlier in the chapter, can create jobs in industries such as mining, agriculture, and manufacturing. The tourism and education sectors, which are major contributors to Australia's services exports, are also significant employers.

Inflationary Pressures

While a stronger currency can mitigate some inflationary pressures by making imports cheaper, sustained trade surpluses driven by high commodity prices can also lead to increased domestic spending. This has stoked inflation in Australia's current economy, with it reaching 7.8% in December 2022. This, however, has decreased through the help of the RBA's tightening of monetary policy, reflected in March 2024 where inflation was 3.6%.