HSC ECO TOPIC 2

Trends in Australia’s trade pattern - value

• Despite Australia’s geographic isolation from the rest of the world, trade has always represented a high proportion of Australia’s economic activity

  • Due to the fact that there has always been overseas markets for Australia’s primary commodities (minerals and agricultural products) as well as services (tourism, education)

  • It is also partly because Australia has needed to trade in order to obtain new technology and goods that are not produced in Australia due to its relatively small population

• In the context of the global economy, Australia is sometimes referred to as a small, open economy

• The Australian economy produces less than 2% of the GWP, however trade is central (exports more than ¼ of what is produced and imports the equivalent of almost ¼ of GDP)

Trends in Australia’s trade pattern - direction

• The direction of Australia’s trade has changed considerably over recent decades

• China has become Australia’s dominant trading partner in the past decade, while India and ASEAN countries have also become more important

• Meanwhile, the key export markets for Australia in previous decades – Japan, the UK and Europe – have declined in importance

• Historic shift in the direction of Australia trade after UK joined European Economic Community (EEC), or EU as known now, required for UK to apply common external tariffs to Australian exports, removing preferential access → leads Australia to shift its exports to Asian countries, e.g. Japan

• When Australian exporters found it more difficult to gain access to European markets, shifted to ASEAN, Japan was largest export market for several decades in 1960s (demand for minerals, energy)

• China’s extraordinary growth created huge export markets for Australian commodities, since 2007, Australia’s largest trading partner (calculated by M + X)

• Trends in direction of exports and imports are different - do not sell large proportion but buys a substantial amounts from advanced economies i.e. cars, aircrafts, pharmaceuticals

• Countries diversify production to other smaller countries e.g. Apple, leading to Vietnam becoming larger sources of imports to Australia

• Increased geopolitical tension, severe conflict in US/China trade relationship → countries seek to reduce the risks by reducing dependency (Australia largely unscathed from GFC due to high demand from China)

Trends in Australia’s trade pattern - composition

• Australia has experienced significant changes in the composition of its export base

• Primary industries have always been the main focus of Australia’s exports, as Australia has a comparative advantage in commodities due to its vast natural resources (together, agricultural and mineral exports account for more than 2/3 of Australia’s export earnings - narrow trade)

• Agricultural exports as a proportion of Australia’s trade has declined over recent years

  • Large fluctuations in world prices

  • Trade protection policies of other countries make it harder for Australian farmers to compete internationally

  • Bulk commodities with little value-adding in production (not much processing to add value)

  • Much less scope for expanding agricultural output → because of finite supply of arable land (land suitable for farming), and the erosion of soils

  • Natural disasters such as floods and bushfires have become more frequent and more severe, reducing the output and productivity of the agricultural sector

• Australia has been less competitive in manufacturing, with manufactured goods only making up a small proportion of exports → as a result, imports large quantities of capital goods and manufactured consumer goods

• The composition of Australia’s imports has remained relatively constant, even as the volume and value of imports have grown substantially

• With the shift away from large-scale manufacturing, Australia has become more reliant on imports for the four categories of capital goods, consumer goods, intermediate goods and services

• Australia’s reliance on commodity exports for the Australian economy

  • Beneficial - resource exports have been lucrative (short-term)

  • Harmful - risk of being too exposed to the Chinese market, create volatility for the Australian dollar and trade (falling commodity prices → decreased foreigners demand for AUD → lowered equilibrium → depreciation → attract services)

    • Relies heavily on coal and gas exports, face carbon tariffs, global markets are likely to decline as economies transition to clean energy

Trends in financial flows

• While Australia’s trade flows have increased substantially over recent years, the rate of growth in financial flows has been much greater (easier in movement of money than goods in trading)

• This growth is due to both international businesses buying Australian asset and investing in Australian businesses, as well as Australian companies increasing their overseas investments (both ways)

• Financial deregulation in the 1970’s, with the floating of exchange rates and removal of restrictions on the movement of capital across international borders, combined with technological changes that made it easier to shift finances between countries, led to the rapid increase in financial flows

  • The rate of growth of portfolio investment into Australia has been significantly faster than the growth in longer-term foreign direct investment (due to deregulation)

  • Before deregulation, direct > portfolio, after deregulation, portfolio > direct

Direct investment (FDI)	Financial transactions to fund the establishment of a new company, or the purchase of a substantial proportion of shares in an existing company (10% or more)
Portfolio investment	The short-term movement (speculative) of funds between economies for loans or the purchase of small share holdings (less than 10% of the total value of a company)

• The level of Australia’s portfolio investment abroad is significantly higher than the level of direct investment (56% increase in Australian investment in Japan)

• Imbalance between investment in Australia and Australian investment overseas

  • Australia has always been a net capital importer, with the level of foreign investment in Australia consistently well above the level of Australian investment abroad

  • Reflects the historically low level of domestic savings within Australia

  • Relied on financial flows from overseas to make up for the shortfall between savings and investment (need to borrow to invest)

• These flows are not all one-way

  • Australia also invested $4.4 trillion overseas (87% of that invested in Australia) in 2025

  • One reason for this is that as overseas capital markets have become more open to international investors, Australia’s large superannuation funds have increasingly pursued investment opportunities overseas

Australia’s Balance of Payments - intro

• Intro - debits and credits

  • The balance of payments (BOP) is the single most important economic indicator of the relationship between Australia and the global economy

  • The BOP summarises all transactions that Australia has with the rest of the world over a given period of time (1y). It shows the trade and financial flows in and out of the Australian economy. All money that flows in is referred to as a credit, while all the money that flows out is called a debit

  • The BOP figures are presented in two accounts – the current account and the capital and financial account

The current account

• Shows the money flow from all exports and imports of goods and services, income flows and non-market transfers for a period of one year

• Net primary income refers to earnings on investments (income that is earned as a return from a factor of production) and covers interest payments on borrowings and returns on other foreign investments, such as foreign-owned companies in Australia or foreign land ownership. When foreigners invest in Australia, income flows overseas and when Australians invest overseas, there is a flow of income into the country

• Net secondary income refers to non-market transfers (income that is not earned through a factor of production). These occur when products or financial resources are provided without a specific good or service being provided in return, such as payouts on insurance claims, foreign aids for income support or workers’ remittances. This is a small and relatively technical account which has little importance in the scope of the overall BOP

The capital and financial account

• Records the borrowing, lending, purchase and sale of assets (such as shares and real estate) between Australia and the rest of the world for a period of one year. The major feature of the capital and financial account is that these transactions are reversible, i.e. borrowings can be paid back and assets that are bought can be sold

• The capital account consists of two main components:

  1. Capital transfers – mainly in the form of ‘conditional’ foreign aid grants, such as an Australian donation to build a bridge in the Solomon Islands (foreign aids for asset creation)

  2. Entries for the purchase and sale of non-produced, non-financial assets – mainly intellectual property rights, such as an Australian company buying the rights from an American company to operate a Subway outlet in Australia

• The financial account shows Australia’s transactions in foreign financial assets and liabilities and is categorised by the type of investment, with 5 main categories

  • Direct investment

    • Include a South Korean company bringing in funds to build a motorway in Sydney or BHP sending funds to Indonesia to fund the construction of a copper mine

  • Portfolio investment

    • Refers to the buying of land, shares and other marketable securities (that is, securities that can be easily sold) in existing companies

    • This is also where most foreign debt is recorded. It has largest volume of transactions on the capital and financial account

  • Financial derivatives

    • A category of complex financial assets that became widely known for their role in the Global Financial Crisis in 2008

    • The value of these investments is normally derived from the performance of specific assets, interest rates, exchange rates or indices

  • Reserve assets

    • Refer to those foreign financial assets that are available to and controlled by the central authorities for financing or regulating payment imbalances

    • Include foreign currencies and gold held by the Reserve Bank, as well as reserve positions (similar to an equity stake) in the International Monetary Fund

  • Other investment

    • Captures transactions not classified in the other four categories, covers trade credits, loans including financial leases, currency and deposits