Uncertainty: Its Impact on Economy and How to Measure It - Research Paper

Introduction

Uncertainty is the inability of people to predict how likely events are going to happen in the future. It involves situations in which the probability of their occurrence is unknown. This lack of knowledge about future events may result in spending less and saving more by firms and consumers leading to a slowdown of an economy. There is difficulty in understanding uncertainty as it is not directly observable. Literature that attempts to measure uncertainty has thus been developed by economists to assess how it may affect the economy. Three are proxies used for uncertainty. They fall into finance based, newspaper based and forecaster agreement.

Is your time best spent reading someone else’s essay? Get a 100% original essay FROM A CERTIFIED WRITER!

Order now

In newspaper-based measures, a measure of newspaper articles in which economic uncertainty is referenced is constructed. The assumption here is that newspaper coverage may contain information about economic uncertainty and that the newspaper coverage does not cause economic uncertainty. A broad range of uncertainty is covered, compared to fiance-based measures which are usually timely. The methodological disadvantage of this measure is the unavoidability of false positives.

Finance based measures commonly use stock volatility as a proxy for uncertainty. This is because of its availability in real time and its reasonable comparability across countries. In this, forward-looking measures are constructed. The forward-looking measure is the monthly option-implied volatility for the ASX 200 per day. A disadvantage of the stock volatility measures is their indirect connection to economic activity. Another of the finance-based uncertainty measures is the dispersion in forecasts by analysts for twelve-month-forward earnings for ASX 200 companies. This measure has a more direct connection to economic activity compared to the measure of volatility and also quite timely. The measure is calculated as the variation of the cross-sectional coefficient in forecasts of analysts for each ASX 200 stock. The aggregate is done to get the mean for the ASX 20 companies and sectors.

Forecaster disagreement can also proxy for economic uncertainty. A heighten in economic uncertainty can widen the potential distribution of outcomes which is seen as dispersion among the forecasters. Forecasts dispersion have a close connection to economic activity and are timely. The measurement of uncertainty helps in the creation of an uncertainty index which is useful in measuring policy-related economic uncertainty. There are several global and domestic factors that may bring about uncertainties to Australia's economic outlook in 2019. they include US-China relations, oil prices, inflation, the federal elections, jobs and wages, and Australian interest rates.

The US-China relations is a factor to consider an economic outlook in Australia in 2019. There has been an ongoing trade war between China and the United States for years.. China is Australia's largest trading partner while the US and Australia have maintained a close relationship on security in the region. Tensions will be there as the Australian prime minister tries to work with both of them. However, there has been great optimism that a trade deal can be secured between China and the US.

Variations in oil prices have great consequences across countries and in industries in these countries. Australia is not excluded. Higher oil prices translate to higher electricity and gas prices and also higher costs for goods and services. In the macroeconomy, the oil price increase may cause inflation. It can also negatively affect the growth of an economy by affecting the supply and demand of goods other than oil. Supply is affected due to an increase in the cost of production of goods. The demand for goods also decreases since high o prices reduce wealth while inducing uncertainty about the future.

Inflation is another factor that may affect the growth of the Australian economy in 2019. By late 2019, underlying inflation is expected to increase a pick up to 2.25 percent. It is expected that fuel prices will boost headline inflation It is also expected that headline inflation will be a bit over underline inflation due to the increases of the legislated tobacco excise. The main area of uncertainty in inflation is the length of time that the structural changes in the retail sector will pull down the retail prices. The retail prices will receive influence from the arrival of new foreign entrants over the coming years to increase competition. Movements in the exchange rates will also influence retail prices.

The federal election is set to take place on May eighteenth, 2019. The opinion polling suggests that there is a high chance of a change of government. This brings in the uncertainty associated with the change and application of new policies. There is uncertainty about how this will affect the economy. The uncertainties surrounding elections cause businesses and households to put their business activities on hold during campaign periods and during the elections. The change in government is received differently by shares as history dictates.

Trends in the Main Sources of Australia's Growth in 2018-1019

The sources of economic growth in Australia are mainly resources such as minerals, skilled labor, technology, trade and investment, industries, and revenue collected. The primary methods of achieving growth of an economy are increasing the quantities of resources, and also their quality. The minerals industry accounts for around eight percent of gross domestic product. Australia' economic growth is expected to moderate in 2019 as private consumption is pulled down by slow wage growth, high household debts and continued correction of the market property while the expansion in fixed investment is constrained by falling construction activity and mining investment.

Resource and energy are one of the main sources of income for Australia. Australia's resources and energy export volumes are expected to grow fast over 2018-2019 but grow at a slower pace in the year 2019-20. The export values are also expected to reach a record high in the year 2018-2019. The estimated growth in export values in 2017-18 is by eighteen percent, to reach $226 billion. In 2018-19, there is an expectation of a two percent drop in prices which is forecast to partly offset the eight percent increase in volumes of exports resulting to rise by 5.1 percent in the value of resources and energy exports to a record $238 billion

The prices of minerals are forecast to change in the financial year 2018-19. The price of iron ore is forecast to go down in the coming two years as the production of steel by China reduces while the supply y Brazil and Australia increase. Coal prices are also predicted to fall as there is an increase in supply and reduction in demand mostly by China. The rising value of the US dollar is also expected to impact negatively on gold prices. Base metals such as aluminum and copper are however experiencing a different side of the coin. Due to US sanctions on Russia, there have been concerns on their supply. Their prices have thus peaked due to a shortage of supply. Also, the lack of mine supply is expected to drive their prices higher in 2019 and 2020. The mining industry goes on to contribute and support the overall economic growth of Australia. It contributed to twenty-one percent of the growth in Gross Domestic Product (GDP) in 2018.

Business investment could be looked like a factor which leads to the economic growth of the country and also as a form in which Australia is growing. There are other industries that have grown and are set to grow in the 2018-19 financial year. These could be termed as the non-mining business investments such as construction activity, renewable energy projects, and projects related to infrastructure for example building of roads. These investments are expected to continue and expand for between 2018 and 2019, though at a slower rate than in 2017. In the 2017-2018 period, mining investment was falling with a decline of the year-end growth by twelve percent in the March quarter and in the June quarter, by five percent. With the completion of the construction of liquefied natural gas facilities, mining investment is expected to become stable and increase as firms invest to sustain production.

The construction industry plays a huge role in the growth of an economy by the provision of shelter infrastructure and employment to citizens of a country. An adequate infrastructural system promotes trade, and expands markets by connecting many parts of a country. The construction industry is one of the rapidly growing economic sectors in Australia. The construction has been increasing steadily due to the growing population in the country. This industry comprises of eight percent of the GDP and is taken to be the largest non-service related industry and contributes around $134.2 billion to Australia's economy. The total construction is rising by two percent each quarter while the productivity in this industry increases annually by 2.8 percent. The construction industry has provided a lot of people with employment, estimated to around 1.1 million people. There has been the development of software that enables builders to save costs while boosting efficiency and create better construction designs. Construction for commercial purposes is expected to rise by 9.3% in the economic year 2018-19.

The Reasons for Low Inflation Outcomes and a Declining Unemployment Rate in Australia between 2015 and 2019

Australia's inflation rate has been low and stable since 2015. The low inflation outcome shows the spare capacity in the economy and the low growth in wages that come with it. It also indicates the continuing downward pressure on retail prices due to the increasing competition in the sector. The inflation in tradable items tends to be lower with more volatility compared to inflation in non-tradable items for example housing and education. Inflation in tradable items is influenced by global prices while non-tradable items inflation is influenced by domestic prices.

Growth in labor costs is an important determinant of inflation in non-tradable. This has led to a slowing in market inflation. Market services inflation has been lowered by one-off factors, for example, the removal of ATM fees for withdrawal and the reforms to compulsory third party insurance schemes which are state-based. There has also been a reduction in prices for telecommunications services and equipment that are technology driven.

Rent inflation also remains low but increased in places such as Melbourne since additional additions to the dwelling stock being absorbed by strong growth in the population. The cost of construction of new apartments has grown at a slow pace compared to the cost of building a house and the price pressures in the cost of building new dwelling places has eased. Most of the construction of residential apartments is occurring in the eastern capital cities leading to the strengthening of the price growth in these places. The overall growth of construction wages remains low while stronger price pressures for firms have been caused by the shortage of specialized labor

The competition in retail continues to pull down consumer prices. There are several factors that have contributed to the ongoing deflation of the retail price. The first one is firmed having to adjust the strategies of their pricing due to the constrained spending in retail and the great competitive pressures over the recent years in the retail industry. Reports from liaison also indicate an increase in the frequency of the periods where products are discounted and an increase in the number of products being discounted. The second factor is the low retail input cost pressures. The rate...