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Macroeconomic Variables

The basic macroeconomic variables that all the policymakers should try to manage are output, inflation, employment and balance of payments. The fundamental objective of many countries is to maintain high economic growth with low level of inflation (Almasifard & Khorasani, 2017). However, there has been considerable debate on the relationship between inflation and economic growth.

Australia sets a target to keep its inflation, on an average, between 2 and 3 per cent, over time. Inflation can be defined as the percentage change in the Consumer Price Index. This shows the changes in the prices of goods and services that the households buy, and is produced by the Australian Bureau of Statistics (ABS). The RBA agreed on the importance of targeting the inflation because it affects the macroeconomic variables of the economy.

Australia suffers from the problem of chronic inflation and low output. It has low level of inflation than the target set by the Reserve Bank of Australia. Therefore, steps are taken to stimulate the demand to increase the output and to bring inflation near the target rate.

Negative Impacts

If inflation is low, it will cause a situation known as deflation. The fall in prices will lead to lower spending. This will cause fall in the demand of goods which will further lead to loss of jobs of workers. The unemployment rate will increase with this level of inflation in Australia.

If inflation is high, the purchasing power of the people of Australia reduces. Thus, they can afford fewer goods and services. In response to this, workers demand high wages. The cost of the firm rises and they reduce the number of workers which lead to increase in the unemployment. This causes distortion in spending and investment decisions (Hartigan & Morley, 2017). Ultimately, all this lead to fall in the output of the economy and hence, the economic growth is hampered. Inflation also reduces the real return on investment and the lenders suffer as the real interest rate falls due to inflation.

Moreover, change in prices increases the menu costs and the shoe-leather costs as the businesses have to change the prices more often. This creates an environment of uncertainty in the market which discourages spending and investment further slow down the economic growth (Yi & Zhang, 2016). If the currency of Australia does not depreciate, the high inflation also lowers the competitiveness of Australia since its products become more expensive in comparison to other economies.

Positive Impacts

However, in the long run, inflation has no impact on the real gross domestic product. The positive side is that inflation only affects the real output if it is able to have an impact on the capital stock or the labour force. Inflation in the economy helps to balance demand and supply when the real interest rate is very low (Kapetanios et al., 2016). Also, one of the most significant impact of inflation is that in the presence of inflation, real wages can be lowered by the firms. This will lead to less firm closures, which will further lead to fewer job losses. Thus, inflation in the economy is causing lower unemployment.

There is a resistance to reduction in the nominal wages by the employees. Inflation helps to provide a cushion against lower wages. It allows the employers to reduce the real wages of the workers without the psychological resistance by the employees.

References for Macroeconomic Variables

Almasifard, M., & Khorasani, S. T. (2017). Relationship between domestic production in agricultural and industrial sectors and purchasing power by controlling for international trade variables (Iran). International Journal of Economics and Financial Issues7(4), 244-253.

Hartigan, L., & Morley, J. (2019). A Factor Model Analysis of the Australian Economy and the Effects of Inflation Targeting (No. 2019-10).

Kapetanios, G., Marcellino, M., & Papailias, F. (2016). Forecasting inflation and GDP growth using heuristic optimisation of information criteria and variable reduction methods. Computational Statistics & Data Analysis100, 369-382.

Yi, K. M., & Zhang, J. (2017). Understanding global trends in long-run real interest rates. Economic perspectives41(2), 1-22.

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